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Cost Containment in Medicare:
A Review of What Works
and What Doesn’t
The Urban Institute and Health Policy Alternatives Inc.
Robert Berenson
Michael Hash
Thomas Ault
Beth Fuchs
Stephanie Maxwell
Lisa Potetz
Stephen Zuckerman
AARP’s Public Policy Institute informs and stimulates public debate on the issues we
face as we age. Through research, analysis and dialogue with the nation’s leading experts,
PPI promotes development of sound, creative policies to address our common need for
economic security, health care, and quality of life.
The views expressed herein are for information, debate, and discussion, and do not
necessarily represent official policies of AARP.
#2008-18
December 2008
© 2008, AARP
Reprinting with permission only
AARP Public Policy Institute
601 E Street, NW, Washington, DC 20049
http://www.aarp.org/ppi
FOREWORD
The growth in spending in Medicare, a critical program for the disabled and seniors, is
keeping pace with other parts of the health care system. Finding ways of getting more
value—both higher quality and lower costs—from the system is necessary to ensure
Medicare’s future. To shed light on the cost part of the value equation, AARP’s Public
Policy Institute commissioned a study to look at what has been tried in the Medicare
laboratory to slow cost growth.
This report, Cost Containment in Medicare: A Review of What Works and What Doesn’t,
is the result of several years of research and analysis by some of the most seasoned
Medicare policy analysts in the business. They bring an unusual degree of combined
wisdom to the task of reviewing the literature and talking with experts to fill information
gaps. Clearly, there are no easy answers. But, the authors conclude that the greatest
success has been in innovations in payment methods and in combating fraud and abuse.
In other areas, like benefit design, coverage policy, and chronic care management, there
is potential for success, although in the case of benefit design and coverage policy, less
has been tested so the savings potential is more theoretical. For chronic care
management, a host of demonstrations have yielded limited success in reducing
spending—we need to know more before we can say we have found the right mixture of
models and incentives that succeed in improving value. In private plan contracting, the
payment method itself has been a barrier to achieving program savings.
AARP does not necessarily agree with all the findings in the report. This caveat aside,
this is a valuable and useful resource that provides a lucid analysis of what we know
about what works.
Sarah Thomas
Director, Health Team
Public Policy Institute
ii
TABLE OF CONTENTS
EXECUTIVE SUMMARY .................................................................................................. 1
Background ................................................................................................................... 1
Purpose.......................................................................................................................... 1
Methodology ................................................................................................................. 1
Findings in Brief ........................................................................................................... 2
PROVIDER PAYMENT SYSTEMS...................................................................................9
Inpatient Prospective Payment System (IPPS) ............................................................. 9
Annual Updates........................................................................................................... 10
Conclusion .................................................................................................................. 12
POST-ACUTE CARE: SKILLED NURSING FACILITY AND HOME HEALTH
PAYMENT....................................................................................................................... 12
SNF Payments............................................................................................................. 12
Home Health Payments............................................................................................... 15
Conclusion .................................................................................................................. 17
PHYSICIAN PAYMENT .................................................................................................. 18
Freeze on Physician Charges ...................................................................................... 19
Fee Schedules and Physicians’ Response to Price Changes....................................... 19
Expenditure Targets .................................................................................................... 21
Impact on Beneficiaries .............................................................................................. 23
Conclusion .................................................................................................................. 24
OTHER PAYMENT APPROACHES............................................................................... 24
Bundling Fee-for-Service Provider Payments ............................................................ 24
Competitive Bidding................................................................................................... 26
Inherent Reasonableness Authority ............................................................................ 27
Conclusion .................................................................................................................. 28
iii
BENEFIT DESIGN AND COVERAGE POLICY ............................................................. 28
Benefit Design ............................................................................................................ 28
Cost Sharing as Cost Containment ............................................................................. 28
Medicare’s Cost-Sharing Structure and Suggestions for Change............................... 29
Limits on Medicare Benefits....................................................................................... 30
Potentially Cost-Saving Benefits ................................................................................ 30
Conclusion .................................................................................................................. 31
COVERAGE POLICY ..................................................................................................... 31
“Reasonable and Necessary” ...................................................................................... 32
National Coverage Decisions...................................................................................... 33
Local Medical Review Policies .................................................................................. 34
Comparative Effectiveness and Cost-effectiveness .................................................... 35
Limits on Use of Evidence to Make Coverage Decisions .......................................... 36
Conclusion .................................................................................................................. 37
CHRONIC CARE MANAGEMENT ................................................................................. 38
Cost Containment Approaches for Beneficiaries with Chronic Conditions .............. 39
Disease Management .................................................................................................. 40
Integrated Care Models............................................................................................... 42
Conclusion .................................................................................................................. 45
PRIVATE PLAN CONTRACTING .................................................................................. 45
Does Private Plan Contracting Save Medicare Money? ............................................. 46
Favorable Selection..................................................................................................... 49
Additional Payment Issues.......................................................................................... 51
Effects on Beneficiaries .............................................................................................. 51
Could Private Plan Contracting Save Medicare Money? ........................................... 52
Conclusion .................................................................................................................. 54
FRAUD AND ABUSE ..................................................................................................... 55
Legislative Tools......................................................................................................... 55
Claims Error Rate ....................................................................................................... 57
Other Fraud Initiatives ................................................................................................ 57
HCFAC/MIP Results .................................................................................................. 58
iv
Impact of the False Claims Act................................................................................... 59
Improper Payments and Beneficiary Involvement ..................................................... 60
Other Reported Studies ............................................................................................... 60
Conclusion .................................................................................................................. 61
CONCLUDING OBSERVATIONS .................................................................................. 61
REFERENCES................................................................................................................ 66
APPENDIX
Interviewees ................................................................................................................ 91
v
Cost Containment in Medicare: A Review of What Works and What Doesn’t
EXECUTIVE SUMMARY
BACKGROUND
Almost from the very inception of the Medicare program in 1965, policymakers have
been concerned about the escalating costs of the program and have explored various
approaches to cost containment.
PURPOSE
This report reviews approaches and lessons learned from Medicare’s experience with
various cost-containment strategies, including both legislative and administrative
initiatives since the mid-1970s. It identifies and describes nine approaches to Medicare
cost containment that represent the most prominent and extensively researched policies
aimed at reducing the growth in program expenditures.
The report starts with a detailed review of payment initiatives by provider type: inpatient
hospitals, skilled nursing facilities, home health agencies, and physicians. Next, it explores
opportunities to restrain costs using changes in Medicare coverage for new technology,
benefit design, and other innovative payment policies. It continues with a discussion of
Medicare efforts to better manage patients with chronic conditions, also known as chronic
care management and chronic care coordination. These sections are followed by a review
and discussion of private plan participation in Medicare and initiatives to reduce fraud and
abuse. The paper concludes with a discussion of broader effects of these cost-containment
initiatives and implications for further cost-containment efforts.
The principal focus of this report is cost containment in the Medicare program. The
paper's emphasis on cost containment reflects its central purpose rather than a preference
for cost containment without regard to other issues. Clearly, any of the approaches
discussed may have important effects on other dimensions of the program, such as quality
of care and beneficiary access to care, to name just two. While the focus of the paper is
Medicare, many of the initiatives discussed have implications for the private health care
system and health care reform efforts.
This report raises many significant issues but does not attempt to provide definitive
answers. On the other hand, it does not discuss a few topics that might have been
included, such as payment for hospital capital spending, graduate medical education, and
disproportionate share hospital payments related to care for the uninsured. Nor does it
discuss Medicare's Part D prescription drug benefit, in part, because data on Part D have
not been publicly released. Thus researchers have not produced studies or findings on
Medicare spending growth in Part D, and cost-containment initiatives had not been
evaluated as of 2007. Finally, this report does not discuss options for increasing program
revenues or overall program financial status or sustainability.
METHODOLOGY
The findings in this report are based primarily on a review of the literature that was
available prior to April, 2008. In each of the cost-containment areas reviewed, we
surveyed the literature for evidence on intended/expected and unintended/actual effects
on Medicare spending and beneficiaries, as well as on broader impacts on quality of care.
1
Cost Containment in Medicare: A Review of What Works and What Doesn’t
We reviewed published analyses in peer-reviewed journals, government reports (e.g.,
Government Accountability Office [GAO], Congressional Budget Office [CBO],
Department of Health and Human Services Office of the Inspector General [OIG], and
Agency for Healthcare Research and Quality [AHRQ]), and selected private analyses
(e.g., Institute of Medicine [IOM]).
Availability of literature varies among the topics. In some areas, a rich literature exists on
the effects of policy changes, such as the move from cost-based reimbursement to
prospective payment for hospitals, nursing facilities, and home health services. In other
areas, such as coverage of new technology, there is a paucity of formal studies on which
to base conclusions about the potential effectiveness of specific approaches on reducing
costs or, for that matter, on other important aspects of care, including beneficiary access
and quality.
To fill gaps in available literature and assist with its interpretation, we conducted in-depth
interviews with issue experts who have had significant experience with the Medicare
program, such as former senior officials of the Centers for Medicare and Medicaid
Services (CMS) and former staff of congressional committees with authority for
Medicare program oversight. (See the appendix for a list of interviewees.)
Evidence of the impact of various cost-containment approaches is derived primarily from
assessments of historical program initiatives, that is, innovations that have received the
most attention from policymakers and researchers and have been implemented on a
programwide basis. However, in some cases, the paper describes approaches that have
not been fully developed or have been implemented on a pilot basis but are believed to
have substantial potential—as yet unrealized—cost-containment impacts. Assessments of
these secondary approaches have been derived from research and demonstrations
conducted both inside and outside of Medicare. The enumeration of these approaches is
not meant to be a comprehensive list of all cost-containment strategies that the program
has actually implemented or could adopt in the future.
FINDINGS IN BRIEF
Key findings from the paper include the following:
Prospective payment for hospitals and post–acute care providers
Prospective payment rates for hospitals have been in place for more than 20 years.
Findings from a number of studies confirm that changing the incentives from a costbased system to an episode payment has resulted in measurable and ongoing savings to
Medicare. While Medicare outlays for hospital care have increased at lower rates
compared to the previously cost-based system, there is also evidence that some costs have
been shifted to posthospital care and outpatient services, thereby somewhat reducing the
cost-containing effect for the program overall. Ultimately, slower growth in Medicare
hospital outlays is tied to the annual update framework. Future savings will depend on the
generosity of these updates and the success of efforts to limit cost shifting to other
covered sites of care. Whether hospitals “cost-shift” to other payers when they receive
decreased annual updates remains a matter of active debate, based on conflicting research
findings and varying stakeholder perceptions.
The introduction of prospective daily rates for Medicare skilled nursing facilities (SNFs)
began in 1998. In the first two years following implementation, expenditures fell by 3
2
Cost Containment in Medicare: A Review of What Works and What Doesn’t
percent a year, but expenditures have returned to double-digit increases since 2000. These
increases suggest that prospective payment for SNFs has not been successful in
controlling Medicare outlays. However, much of the increase is the result of explicit
decisions by Congress and various administrations to raise SNF payments through the
annual update process. Importantly, a consistent finding from several studies following
implementation of the new payment system shows a reduction in the amount of therapy
services in SNFs without evidence of beneficiaries suffering adverse consequences such
as increased hospital admissions, longer stays, or facility-acquired pressure sores.
Prospects for sustained cost containment in this sector continue to be affected by industry
efforts to increase annual updates and by special adjustments that increase payments
beyond the growth in the number of beneficiaries and general medical care inflation.
Home health spending in Medicare grew at an annual rate of 30 percent between 1988
and 1996. Following enactment of the 1997 Balanced Budget Act, payments were
initially limited on a per patient basis and later converted to a prospective payment
system (PPS) based on an episode of care. At the same time, fraud initiatives and
coverage changes also contributed to significant reductions in the growth of home health
spending. In just two years, spending was cut in half. Since the PPS was implemented in
2000, the average annual increase in spending has been about 7 percent. Further, little
evidence has been found showing increased expenditures related to rehospitalizations or
emergency care. The literature suggests that home health agencies have responded to the
PPS (and other changes in eligibility and more intense oversight) by increasing the
efficiency of their operations and by shifting the mix of their patients to those needing
skilled services for shorter periods.
Physician fee schedule
Although there has been no rigorous evaluation of Medicare savings achieved by the
physician fee schedule and the formal spending targets that have been in place since
1992, studies and spending trends suggest that growth in Medicare physician
expenditures is significantly lower, at least through 2003, than it otherwise would have
been. Evidence shows that physicians may vary the volume and intensity of services in
response to price changes but in multiple ways. In general, they are likely to provide
more “overpriced” services and fewer “underpriced” services as payment rates are altered
under the fee schedule. Responses, however, vary by such factors as type of service
(surgical, primary care, etc.), magnitude of the reduction in the fee schedule, local market
conditions, and prices paid by other payers. The concern that physicians would recoup
price cuts by increasing volume and intensity did not materialize to the degree initially
expected, leading researchers to conclude that the fee schedule itself can be an effective
tool to reduce spending on physician services. Indeed, from 1992 to 2003, annual
expenditures grew at a rate significantly lower than historic rates. We calculate an
approximate 4 percent savings in the 12-year period following 1991. Importantly,
beneficiary access to physicians as monitored by the Medicare Payment Advisory
Commission (MedPAC) and others has remained high, and the slower growth in
physician expenditures has led to slower increases in out-of-pocket spending in the form
of lower beneficiary premiums and coinsurance amounts.
Since 2000, however, growth in the volume and intensity of physicians’ services has
increased significantly, although remaining below the level experienced prior to 1992.
For the years 1998–2005, total physician spending grew 7.4 percent annually, below the
long-term average of 8.9 percent. Nevertheless, these growth patterns suggest that
3
Cost Containment in Medicare: A Review of What Works and What Doesn’t
expenditure targets have become less effective over time. Congress has repeatedly
overridden negative updates to the fee schedule resulting from growth in program
expenditures above annual targets, thus creating a long-term problem of negative updates
through 2015.
Other provider payment policies
Medicare has attempted other payment approaches to achieving cost savings beyond
prospective payment and fee schedules. Two approaches that have been applied on a
demonstration basis are bundling fee-for-service payments across provider types and
competitive bidding. In the 1990s, several hospitals were selected for a demonstration of
bundled facility and physician payments for heart bypass surgery. Evaluations of seven sites
identified savings of about 10 percent below what would have been paid. Similarly, two
competitive bidding demonstration sites for durable medical equipment (DME) resulted in
estimated savings of about 20 percent compared with traditional program payments without
adversely affecting beneficiary access or the quality of services. While these approaches hold
promise for cost containment, they require a significant administrative effort that is both time
and resource intensive. Further, successful adoption of these methods will require Medicare
to move from an “any willing provider” policy to more of a selective contracting model—or
at least to one of selecting “preferred providers”—a change that would represent a new and
controversial approach for the program.
Benefit design and coverage of new technology
Since its inception in 1965, Medicare benefits have remained largely unchanged except
for the periodic addition of selected prevention benefits (and the drug benefit added by
Congress in 2003). Three features of Medicare benefit design that have been examined
from a cost-containment perspective are cost sharing in the form of deductibles and
coinsurance, explicit limits on the quantity of particular services allowed, and the scope
of Medicare benefits. A considerable literature reports that use of medical services
declines as prices faced by patients increase. Recent studies of the effects of cost sharing
have mixed results, including, in some instances, evidence of inappropriately low use of
some important preventive services and maintenance drugs for chronic conditions.
However, the CBO estimates that restructuring Medicare cost sharing to a single
deductible, 20 percent coinsurance, and an annual out-of-pocket spending cap would
generate substantial savings. Limiting the frequency or amount of certain benefits—like
drugs or therapy services—has been shown to reduce use but may also be associated with
increased expenditures elsewhere.
Cost containment also can focus on the process for managing coverage decisions for new
technology, including equipment, drugs, and procedures. However, there is virtually no
literature on the impact of Medicare coverage decisions on program expenditures.
Coverage criteria in Medicare are broadly stated, with covered benefits described in
categories—hospital services, physician services, etc.—and the standard for a particular
service or item is only that it be “reasonable and necessary” for diagnosis and treatment.
Although there is legal consensus that the “reasonable and necessary” language provides
a basis for Medicare to formally consider costs and cost effectiveness in making coverage
decisions, political opposition has prevented Medicare from issuing program regulations
that would establish a formal role for considering cost effectiveness. Nevertheless, in
recent years, Medicare has applied stronger evidence requirements for coverage and
issued more narrow coverage decisions, usually limiting the application of new
technology by establishing “coverage with conditions,” such as covering carotid stents
4
Cost Containment in Medicare: A Review of What Works and What Doesn’t
only in approved centers and off-label use of colorectal cancer drugs only in approved
clinical trials.
It seems safe to conclude that decisions to deny or limit coverage or impose conditions on
coverage does produce savings, at least in the short run. Their longer-run effect is less
clear, however, because it is impossible to know how use of a treatment would have
evolved in the absence of the coverage decision or to deduce the long-run costs or
savings of new treatments based on time-limited clinical trials.
Much of the literature examines the feasibility and potential of relying on evidence-based
decisionmaking and the use of cost-effectiveness and comparative effectiveness analyses.
However, these approaches can be controversial, and conclusions about their
effectiveness are limited by the relatively small number of published studies meeting
accepted review standards. Private payers and Medicare have tried other approaches to
managing coverage through the use of prior authorization, claims reviews, and practice
guidelines. The evidence for all of these approaches is mixed, and their use is not without
controversy. Some of the literature also suggests that the use of evidence-based coverage
criteria may lead to more appropriate care but not necessarily to a net reduction in
spending. Another approach to limiting costs for technology, i.e., paying “the least costly
alternative” for different treatments that are functionally equivalent, has had limited
implementation in Medicare largely because of opposition by affected suppliers and
consequent congressionally imposed limitations on CMS authority in this area.
Chronic care management
Expanding the scope of Medicare benefits has also been examined as a cost-containment
strategy intended to address the lack of coordination and integration of care for frail,
elderly patients with chronic conditions. Increasing evidence points to the highly
disproportionate share of Medicare spending by beneficiaries with multiple chronic
conditions, some of whom are also frail and exhibit limitations of activities of daily
living. Although it is logical that providing focused professional support for these
vulnerable patients would both improve patient well-being and reduce costs, usually by
reducing avoidable hospitalizations, the evidence in the literature, including a number of
randomized clinical trials, shows that numerous Medicare demonstrations conducted over
two decades did not reduce Medicare costs. Many of these programs have not attempted
to alter directly the provision of care by physician practices, preferring to bypass the core
patient-physician relationships with supplemental programs that come with additional
administrative costs.
Significantly, the Program of All-Inclusive Care for the Elderly (PACE) model of
comprehensive, coordinated care has demonstrated some success in integrating care for
frail enrollees, with modest cost containment, but efforts to replicate the model have
proved difficult. Other capitated approaches to caring for vulnerable beneficiaries have
not been as successful. Findings from other demonstrations of comprehensive care
models for individuals with chronic conditions have generally cited more appropriate
care, but not reduced program costs. In some cases, the demonstration programs have
reduced costs, mostly from reduced hospitalizations, yet have been able to keep the
excess rather than allowing Medicare to share in the savings from improved efficiency.
Despite the absence of demonstrable cost-containment success in various chronic care
management models, and consistent with congressional intent to expand private plan
5
Cost Containment in Medicare: A Review of What Works and What Doesn’t
choices in Medicare, there has been a major increase in enrollment in “special needs
plans,” a type of private health plan option that targets dual-eligible beneficiaries, nursing
home patients, and those with particular chronic conditions. However, payments to these
plans seem likely to increase Medicare costs compared with costs in the traditional
program, even for these vulnerable groups.
Private plan contracts
Twenty-five years of experience with private plan contracts has not demonstrated
significant cost savings. In fact, the literature reveals that Medicare has, on average, paid
private plans more than their underlying costs; paid more than it would have paid for
beneficiaries if they remained in the traditional Medicare program; and has failed to reap
any savings that may be achievable as a result of efficiencies in private plan care delivery
(e.g., management of care and provider discounts), largely because payment policies have
failed to account for the favorable selection experienced by contracting plans. These
findings have persisted even as Congress and CMS have adopted successive
modifications to the payment and risk-adjustment methodologies and have expanded the
program to include a much wider range of private plans than traditional health
maintenance organizations (HMOs).
Where Medicare private plan contracting has succeeded is in delivering enhanced
benefits and lower out-of-pocket costs for enrollees compared with what these
beneficiaries would have experienced under traditional Medicare. These advantages,
however, have been concentrated in those areas of the country where plan payment rates
have been relatively high, a geographic inequity of concern to those in areas of the
country that do not fare as well. By increasing Medicare payment rates to private plans
even more and by establishing a range of private plan options—including private fee-forservice (FFS) plans, medical savings account plans, and regional preferred provider
organizations (PPOs)—Congress has basically addressed such equity concerns by
encouraging health plans to enter historically undesirable geographic areas, including
rural counties. But in an effort to achieve more beneficiary access to private plans and
extra benefits, lawmakers have made private plan contracting even more costly to the
program. MedPAC currently estimates that Medicare spends 13 percent more in
aggregate for beneficiaries to join a private plan in comparison with what the spending
would be if they remained in traditional Medicare. Average excess payments vary with
plan type. In 2008, these ranged from 112 percent of traditional Medicare costs for the
local HMOS and regional PPOs to 119 percent for local PPOs.
Could private plan contracting achieve significant savings for Medicare? This question is
widely debated in the literature. Many economists have argued that such savings could be
achieved by shifting private plan contractors away from the administered pricing system
to a market-based, competitive bidding system, whereby Medicare would pay plans based
solely on their premium bids. Efforts to test competitive bidding approaches in selected
areas of the country have been thwarted in the past by stakeholder opposition. Under a
provision of the 2003 Medicare Modernization Act (MMA), Medicare Advantage plans
each now bid a premium. However, the plan’s Medicare payment is based on how the
plan’s premium compares with a formula-driven benchmark, which is itself tied to area
per capita costs of traditional Medicare. The Comparative Cost Adjustment Program,
required under the MMA to begin in 2010, will test a premium-support approach, in
which private plans compete head-to-head with traditional Medicare for beneficiaries on
the basis of bid premiums. Whether such an approach can achieve cost containment for
6
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Medicare without adversely affecting beneficiaries electing traditional Medicare remains
to be determined.
Prevention of fraud and abuse
Medicare has also substantially expanded initiatives to reduce program expenditures
related to fraud and abuse. Annual reports from CMS, the Health and Human Services
OIG, and the Department of Justice cite significant recoveries from settlements and
judgments resulting from audits and prosecution of cases brought under the False Claims
Act. The Medicare Integrity Program, operated by CMS, has reduced the claims error rate
and increased recoveries from private insurers with primary liability. One published study
shows that increasing funds for fraud prevention/detection initiatives can lower Medicare
expenditures without adversely affecting health outcomes. Stepped-up program
enforcement also creates a “sentinel effect” that is believed to be a significant deterrent,
but its effects cannot be quantified. However, increasing these efforts markedly could
undermine the political support necessary to sustain these initiatives. Further savings will
require investment in information technology, a more rigorous process for the review of
provider qualifications, and more oversight of program vulnerabilities arising from risk
contracts with private health plans.
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
PROVIDER PAYMENT SYSTEMS
INPATIENT PROSPECTIVE PAYMENT SYSTEM (IPPS)
Medicare changed its approach to inpatient hospital payment in 1983, moving from a
system under which hospitals were paid based on the costs they incurred to one under
which they received a fixed, predetermined payment for each admission. These
prospectively set rates initially allowed payments to vary only according to 467 (and now
more than 700) patient diagnosis-related groups (DRGs) into which a particular admission
may fall, with adjustments for local area cost differences and certain hospital characteristics
(e.g., teaching status; treatment of a disproportionate share of low-income beneficiaries).
Any hospital paid under this system that could treat a Medicare patient for less than the
prospective rate could retain the difference. The approach provides a strong incentive for
hospitals to lower the costs associated with the treatment of Medicare patients. It also raises
a concern that patients might be denied needed care or be discharged in less-stable
condition, what was initially labeled as “quicker and sicker” (Guterman, Eggers, and Riley
1988; Kahn et al. 1990a). In addition to attempting to lower hospital costs, it is also
possible that hospitals may attempt to recoup any perceived shortfalls in Medicare
payments from private payers—a phenomenon referred to as “cost-shifting.”
Research covering the period immediately following the implementation of the Inpatient
Prospective Payment System (IPPS) showed that hospitals responded quickly; lowered
their Medicare costs per patient, primarily by lowering length of stay; and earned profits
(Hadley, Zuckerman, and Feder 1989). Coulam and Gaumer (1991) provided an excellent
synthesis of the literature examining the impact of IPPS for the late 1980s. Despite
expectations that per admission payments could provide incentives to increase those
admissions for which payments exceeded costs, the evidence showed that overall
admission rates actually declined through 1987. This admission decline occurred at the
same time that advances in clinical management were permitting care to be shifted to
outpatient settings, offsetting some of the potential savings from the IPPS. Although there
was some evidence that hospitals reduced the number of services and the intensity of care
provided during an admission (e.g., Fitzgerald et al. 1987; Sloan, Morrisey, and Valvona
1988), there was little evidence to suggest that Medicare patients received fewer
appropriate tests and procedures than they needed (Kahn et al. 1990b). There was evidence,
however, that patients were somewhat more likely to be discharged to their homes in a
more unstable condition after the IPPS was implemented (Kosecoff et al. 1990).
Newhouse and Byrne (1988) provided an early cautionary note on the thrust of this
evidence by showing that the observed drop in length of stay occurred among patients at
short-stay, acute care hospitals, and when hospitals and hospital units exempt from the
IPPS were included, the share of Medicare patients remaining hospitalized for more than
60 days actually increased between 1981 and 1985. They concluded that patients were
being shifted from hospitals paid under the IPPS to other units or facilities. This finding
foreshadows the growth in discharges to post-acute care that started by the early 1990s.
From the start of the IPPS, policymakers were concerned that a purely admission-based
payment system would give hospitals an incentive to transfer patients to a different
hospital relatively early in the stay, if possible. To counteract this incentive, Medicare did
not make the full DRG payment to the admitting hospital when a transfer to another acute
9
Cost Containment in Medicare: A Review of What Works and What Doesn’t
care hospital occurred. However, there was no payment penalty to the admitting hospital
if the patient was discharged to post-acute care (i.e., a skilled nursing facility, home
health agency, or a hospital exempt from the prospective payment system [PPS]). Not
surprisingly, the share of admissions that resulted in a post-acute care transfer rose from
21 percent in 1991 to 30 percent by 1998 (Gilman et al. 2000). The increase was even
greater for the 20 DRGs with the highest rates of post-acute care discharges, increasing
from 38 percent to 54 percent during this same period. As a policy response, the 1997
Balanced Budget Act (BBA) extended some of the payment rules applied to hospital
transfers to post-acute care transfers for 10 DRGs with very high post-acute care transfer
rates. Although hospital transfers to post-acute care were sometimes inaccurately
reported as discharges to home (Levinson 2005), evidence suggests that despite this
“leakage” the BBA transfer policies that reduce payments to hospitals under the IPPS
produced significant savings (Cromwell, Donaghue, and Gilman 2002).
ANNUAL UPDATES
On a year-to-year basis, the main cost control mechanism within the IPPS relates to the
size of the annual update in payment rates (although average payments per case can
increase for reasons other than the annual update, e.g., lags in DRG calibration). Each
year the annual update factor results from recommendations made in the president’s
budget and by the Medicare Payment Advisory Commission (MedPAC) and final
decisions made ultimately by Congress as part of the budget process. MedPAC considers
the adequacy of rates in March of each year. It assesses what a reasonable increase in
costs would be for efficient hospitals before making a recommendation about the update
for all hospitals (MedPAC 2006a). The adequacy of rates is determined by considering
data on beneficiary access, service volume, quality of care, access to capital markets, and
hospitals’ Medicare margins. When assessing the needs of efficient providers, MedPAC
balances likely input price increases (measured by the hospital market basket index,
which reflects changes in the prices hospitals pay for labor, equipment, and supplies)
against the potential for technological changes to improve productivity and the need to
encourage efficiency and quality of care. In many years, this mix of factors results in
recommended updates to IPPS payment rates that are less than the increase in the hospital
market basket index.
Indeed, the 1997 BBA used the update mechanism to achieve roughly one-half of the
savings achieved from Medicare payments for inpatient hospital care, with the rest
resulting from payment changes in other parts of the IPPS, such as capital and indirect
medical education support (Guterman 1998). However, it should be emphasized that
updates in the decade prior to the BBA had been, on average, 2.1 percent below the market
basket (Guterman 1998). The law in place at the time of the BBA would have set the
baseline update at the market basket for the period 1998–2002 (approximately 3 percent per
year). Therefore, although the BBA reduced the update by 1.7 percentage points annually
relative to this baseline, the projected BBA updates were really more generous than
hospitals had received during the prior decade. Moreover, the updates were increased by
legislation passed during the period before the BBA could be fully implemented. Data
show that in the years since 2002, the IPPS update has been kept at or below the hospital
market basket rate of increase, and, as a result, the annual changes in Medicare payments
per case have been below the changes in costs per case (MedPAC 2007a).
10
Cost Containment in Medicare: A Review of What Works and What Doesn’t
As noted, the evidence on changes in hospital behavior and patterns of care resulting
from the IPPS was strong, but these types of studies do not address the impact that the
IPPS has had on overall Medicare spending. Russell and Manning (1989) began filling
this void by analyzing data from the 1979 to 1988 Medicare trustees’ reports to assess
how the IPPS affected projections of future spending from the Hospital Insurance (HI)
Trust Fund. (During this period, Medicare inpatient hospital spending accounted for
about 93 percent of the spending from this fund.) They concluded that projections of HI
Trust Fund spending for 1990 had fallen from $54 billion just prior to the start of the
IPPS to $42 billion in 1988, implying a savings of approximately 20 percent. Roughly
one-third of these projected savings were due to the drop-off in admissions that occurred
in the years following the introduction of the IPPS. This study also explored the
possibility that savings could be offset by spending on outpatient services and found that
the IPPS could have increased spending from the Supplementary Medical Insurance Trust
Fund for such outpatient services by no more than $0.6 billion in 1990.
More recent analyses confirm that the early years of the IPPS were somewhat unique
with respect to the growth in Medicare hospital spending. Foster (2000) showed that the
IPPS was associated with an actual decline in Medicare HI expenditures between 1985
and 1987, holding constant general and medical price inflation and beneficiary growth.
The only other period during which he detected a similar pattern was in the years
immediately following the BBA cuts.
White (2006) provided a different set of analyses showing that the IPPS not only
succeeded quickly, but also was able to sustain slow growth over time by keeping
payment updates low. White defined “excess growth” in spending as nominal spending
beyond that expected by the same factors that Foster held constant plus the change in the
age composition of beneficiaries and real gross domestic product (GDP) per capita. He
showed that, after a sustained period of excess growth in hospital spending at or above 4
percent during the 1970s, excess growth in the years following the IPPS has fluctuated
around zero. Even in the years prior to the BBA, excess growth in hospital spending
remained well below the levels of the 1970s.
Not surprisingly, White (2006) also showed that excess growth in spending on post-acute
care was more than 20 percent annually between 1989 and 1995, offsetting some of the
low excess growth in hospital spending, supporting other evidence showing that some of
the lower program costs Medicare achieved under the IPPS have been shifted to other
Medicare services (e.g., outpatient care and post-acute care). This means that, from the
program’s standpoint, the success of the IPPS as a cost containment policy is not as great
as would be attained by focusing solely on inpatient hospital payments.
In addition, from the health care system’s standpoint, private payers may have helped
hospitals cope with lower Medicare payments under the IPPS if they increased payments
for their enrollees’ services in response to hospitals’ revenue needs. If this cost shifting
occurred extensively, then the incentive for hospitals to lower their overall expenses in
response to the IPPS would have been weakened. However, the definition of cost
shifting, the market and behavioral conditions under which it occurs, and the empirical
evidence showing its impact all remain topics of active debate in the literature (e.g.,
Ginsburg 2003; Lee et al. 2003; Morrisey 2003).
11
Cost Containment in Medicare: A Review of What Works and What Doesn’t
CONCLUSION
The IPPS has been in place for almost 25 years and has given Medicare control over the
price it pays for the service that continues to represent the largest share of program
spending. Although the number of discharges per beneficiary increased during the second
decade of the IPPS, the program’s ability to set payment updates has typically kept
payment growth at or below the rates of increase in hospital input prices (Centers for
Medicare and Medicaid Services [CMS] 2007e). In fact, the slow growth in input prices
in recent years has resulted in annual payment growth that was well below the early years
of the IPPS.
The body of research reviewed suggests that the IPPS has reduced Medicare’s spending
on hospital inpatient care. However, a portion of the savings from the IPPS was offset by
the shift of some services to hospital units exempt from the IPPS (e.g., outpatient
departments) and the growth in post-acute care. Therefore, while the IPPS succeeded in
containing the growth in inpatient hospital spending, it may have spurred spending
growth for other services.
POST-ACUTE CARE: SKILLED NURSING FACILITY AND HOME
HEALTH PAYMENT
Of the nearly $43 billion that Medicare spent on post-acute care in 2006, three-quarters
went for care provided by skilled nursing facilities (SNFs) and home health agencies
(HHAs) ($19.2 billion to SNFs, $13.1 billion to HHAs) (MedPAC 2008a). The remaining
25 percent of Medicare spending in 2005 on post-acute services supported inpatient
rehabilitation facilities ($6.7 billion) and long-term acute care hospitals ($4.6 billion).
SNF PAYMENTS
Between 1990 and 1998—the year the SNF PPS (discussed below) was introduced—
Medicare spending for SNF care grew about 25 percent annually (CMS 2006b).
Medicare’s SNF reimbursement policy at the time incorporated facility-specific limits on
routine costs (i.e., room, board, and skilled nursing care), while capital costs and ancillary
costs (e.g., therapy services, ventilator patient care, and prescription drugs) were
reimbursed on a reasonable cost basis. This reimbursement system helped fuel increases
in both utilization and payment amounts—over the eight-year period, the number of SNF
days per 1,000 beneficiaries rose 11 percent a year and payments per day rose 14 percent
a year (CMS 2006b). The lack of reimbursement limits on ancillary care permitted SNFs
to care for patients with substantial ancillary needs. However, government agencies also
found that under reasonable cost reimbursement, there was evidence of excessive charges
for ancillary services—particularly therapy services, such as physical, occupational, and
speech therapy—and evidence of medically unnecessary provision of such therapy
services (General Accounting Office [GAO] 1994b, 1996, 1997a; Office of Inspector
General [OIG] 1999a, 1999b).
As required by the 1997 BBA, a PPS was introduced to help control Medicare SNF
spending, beginning in July 1998. The PPS pays a predetermined rate for a day of SNF
patient care, adjusted for case mix, area wages, and inflation. The classification system,
labeled Resource Utilization Groups, Version III (RUG-III), groups SNF patients into
12
Cost Containment in Medicare: A Review of What Works and What Doesn’t
one of 53 groups (originally 44 groups) based in large part on therapy time, as well as use
of other selected services, presence of selected medical conditions, and level of
impairment in activities of daily living (ADLs). This patient information is derived from
a nursing home patient assessment instrument (the Minimum Data Set), which is
completed at periodic intervals during a patient’s stay. Payment rates vary by RUG-III
group; however, as Maxwell, Weiner, and Liu (2003) summarized, several studies have
shown this payment variation does not correspond well to variation in SNF patient costs.
As a result, the SNF PPS in particular provides incentives to both target patients in higher
paying case-mix groups and to limit patient costs.
The chart below illustrates total and per beneficiary SNF spending in the years
surrounding the introduction of the PPS. As the chart shows, in the first two years of the
PPS, 1998–2000, total SNF spending actually fell 3 percent in real terms each year,
producing a much larger spending reduction than what had been estimated by the
Congressional Budget Office (CBO 1998). Following additional payments legislated for
SNFs, annual payment updates, and renewed growth in rates of use of SNF care,
spending has increased about 11 percent annually between 2000 and 2005 (MedPAC
2006b). Although still significant, the 11 percent compares favorably with the 25 percent
annual rate of growth between 1990 and 1998 when SNF ancillaries were reimbursed on
a cost basis, demonstrating that the SNF PPS has resulted in a slower rate of growth in
Medicare spending.
Medicare Payments to Skilled Nursing Facilities 1994-2006
$19
578
17.2
478
Total Payments
($ billions)
$17
$13
351
$11
274
$9
$7
$450
$400
329
$350
10.7
11.2
$550
$500
420
14.5
$15
$600
$300
9.1
$250
Per FFS Enrollee Payments
20.5
$21
$200
175
5.9
$5
$150
1994
1996
1998
2000
2002
2004
2006
Year
Total Payments
Per FFS Enrollee Payments
Source: Centers for Medicare and Medicaid Services (CMS).(2007e). Health Care Financing Review Statistical Supplement, 2007,
Baltimore, MD: CMS, April 2007:445.
13
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Some studies examined the impact of the PPS on the likelihood of SNF use, service
utilization (particularly therapy use), and outcomes. In aggregate, the studies have yielded
insight on the responsiveness of nursing homes, particularly freestanding ones, to the new
financial incentives introduced under the PPS. Analyses of therapy use before and after
the PPS indicated that SNF patients were more likely to receive some therapy after
introduction of the PPS; however, the amount of therapy furnished to those receiving
therapy declined after the PPS (White 2003); Wodchis, Fries, and Hirth 2005). Further,
these two studies showed that SNFs largely target patients assigned to the most profitable
PPS case-mix groups, in terms of Medicare payments relative to the therapy time
required, suggesting the need to modify payments to address the role of favorable
selection. The PPS overall, and the decline in therapy time among users, has not been
associated with poorer SNF outcomes (Angelelli and Gifford 2002; Angelelli et al. 2002;
Hutt et al. 2001; Kramer, Eilertsen, and Hutt 2000; Wodchis, Fries, and Hirth 2005).
Other studies focused on the impact of the PPS on nursing home staffing and the use of
outside suppliers of ancillary services. The studies found that the PPS resulted in a
decrease in the use of professional staff relative to aides in SNFs (Konetzka et al. 2004);
a decrease in the use of licensed physical therapists, whether as salaried or contracted
workers (Goldstein 2001); and a decrease in the use of outside suppliers of therapy
services and an increase in the use of in-house, or salaried, therapy providers (Zinn et al.
2003).
Although initial spending cuts in 1999 and 2000 created turmoil in the SNF industry,
producing a number of bankruptcies, financial performance analyses indicated that
Medicare margins remained large and positive for two-thirds of all free-standing SNFs in
1999 and for 81 percent of them in 2000 (GAO 2002b), suggesting that most facilities
were able to fairly quickly reduce the unit costs of their ancillary services.
However, in contrast to free-standing facilities, Medicare margins among hospital-based
SNFs generally are negative (MedPAC 2006a). Part of the explanation is that hospitalbased SNFs often treat a more medically complex patient mix (GAO 1999a). Further,
although aggregate SNF payments are adequate (MedPAC 2006a), the ability of the SNF
PPS to match payments with patient costs is limited, particularly for patients with high
nontherapy ancillary service use (Maxwell, Weiner, and Liu 2003). Most hospitals and
health systems with SNFs have continued to operate these units despite negative ratios of
Medicare SNF payments to reported SNF costs, suggesting that these parent health
systems have broader strategic reasons to maintain SNF units.
While the distribution of Medicare SNF payments across patients continues to be of
concern, MedPAC (2006b; 2006a) generally has stated that overall Medicare SNF
payments are more than adequate relative to Medicare SNF costs, and has recommended
payment updates below the rate of inflation. As with acute care hospitals, MedPAC bases
its recommendations on data about access to SNF care, SNF outcomes, industry access to
capital, and Medicare margins. Although industry and consumer advocates argue against
lower payment updates, in part because Medicare revenues help offset low Medicaid
rates to nursing homes (American Health Care Association 2007), the literature suggests
that SNFs, particularly freestanding ones, have been able to reduce their Medicare costs
both in absolute terms and relative to PPS payments, without adversely affecting patient
outcomes.
14
Cost Containment in Medicare: A Review of What Works and What Doesn’t
HOME HEALTH PAYMENTS
Medicare home health spending rose at an even faster rate than SNF spending, averaging
30 percent per year between 1988 and 1996, a peak spending year (MedPAC 1999).
$21
$600
$19
$550
$15
$13
$11
$500
497
16.8
$17
13.9
$450
$400
12.7
343
11.4
323
10.5
$9
7.2
193
$7
9.6
273
388
$350
$300
314
$250
Per FFS Enrollee
Payments
Total Payments
($ billions)
Medicare Payments to Home Health Agencies
1994-2006
$200
$5
$150
1994
1996
1998
2000
2002
2004
2006
Year
Total Payments
Per FFS Enrollee Payments
Source: Centers for Medicare and Medicaid Services (CMS).(2007e). Health Care Financing Review Statistical Supplement, 2007,
Baltimore, MD: CMS, April 2007:469.
Policymakers had several concerns regarding this level of growth and responded by
initiating a concentrated fraud and abuse effort, including imposing a six-month
moratorium on certifying new agencies; reducing eligibility for home care services; and
replacing the cost-based reimbursement for services with a temporary system known as
the interim payment system (IPS) and, ultimately, an episode-based PPS.
The temporary system, the IPS, was phased in beginning October 1997. HHA payments
were subject to agency-level, per-visit cost limits and agency-level, per-patient cost
limits. Due to the IPS, fraud and abuse efforts, and eligibility changes, Medicare home
health payments plummeted to $7.2 billion by 2000, as seen in the chart above. (CMS
2007e). Several studies have documented the substantial changes in home health use
during these two years, including a roughly 20 percent drop in the share of home health
users (GAO 2000c; McCall et al. 2003b); 40 percent decline in the number of visits per
user (McCall et al. 2003b); and about a 25 percent reduction in the number of certified
HHAs (Abt 1999; GAO 1999d).
The PPS was implemented in October 2000. This policy pays a pre-established amount
for 60-day episodes of care, adjusted for clinical conditions, area wages, inflation, and
service use. Further adjustments to payment amounts for outlier cases, significant
15
Cost Containment in Medicare: A Review of What Works and What Doesn’t
changes in patient condition, and partial episodes of care are recognized. CMS also
slightly expanded eligibility criteria for the home health benefit. Since 2000, HHA
spending has grown about 7 percent annually, to $12.5 billion in 2005 (MedPAC 2006a).
The combination of IPS and PPS payment changes, coverage and eligibility changes, and
program integrity activities resulted in a substantial reduction in the growth rate of
Medicare home health spending compared with the era of cost-based reimbursement.
Studies have not been able to clearly isolate the impact of these three broad factors in
order to attribute specific levels of spending reductions to each.
However, studies that have examined the impact of the spending reductions in terms of
visit utilization, outcomes, and patient mix have yielded insight regarding agency cost
efficiencies and the changing “home health product.” Numerous studies documented visit
reductions. For example, MedPAC (2006a) found that between 1997 and 2002 the total
number of visits per episode fell by about half, from an average of 36 to 19 visits.
Adjusting for case mix, Schlenker, Powell, and Goodrich (2005) found that total visits
fell by about 17 percent. Several studies found that greater reductions in visits occurred
for patients who were older, female, dually eligible for Medicare and Medicaid, in
proprietary agencies, and in states with historically high use rates (FitzGerald et al. 2006;
McCall et al. 2003b; Murkofsky et al. 2003; Zhu 2004).
Despite such a substantial reduction in home health visits, recent studies have found little
and sometimes no change in outcomes, such as rehospitalizations, emergent care rates,
and wound outcomes (McCall et al. 2003b; MedPAC 2006a; Schlenker, Powell, and
Goodrich 2005), suggesting that the incentives of the Medicare home health PPS have led
to reductions in some unneeded services. Further, analyses of agency financial
performance suggest that agency cost efficiencies also have occurred in the form of
reductions in the cost of a unit of service (MedPAC 2006a).
At the same time, however, some of the spending reduction has been produced by a
change to a less costly mix of home health patients. Both the payment system changes
and the eligibility changes shifted the emphasis of the Medicare home health benefit
away from patients with chronic care conditions and needs for longer term aide services,
and toward patients with more acute conditions and needs for shorter term rehabilitation
services. Correspondingly, studies found that while overall visits declined, the number
and share of visits that were skilled visits, particularly for rehabilitation, grew (MedPAC
2006a; Murtaugh et al. 2003; Schlenker, Powell, and Goodrich 2005). For example,
between 1997 and 2002, the share of home health visits that were therapy visits rose from
9 percent to 26 percent (MedPAC 2006a). Correspondingly, studies have found
reductions in the number and share of visits by home health aides.
In sum, the literature suggests that home health agencies have responded to payment
system changes, coverage and eligibility changes, and program integrity activities by
increasing their cost efficiency and by shifting to a mix of patients needing skilled
services for a shorter period. Medicare home health spending growth is lower as a result.
In addition, use of home health aide services clearly has been reduced. Given the
program’s benefit structure, these direct costs generally should not be borne by other
portions of the program. Further, outcomes studies conducted to date generally suggest
that the home health system changes do not seem to be resulting in higher “indirect” costs
to the program (e.g., higher hospitalization rates or emergency room visits). However, the
Medicare savings in terms of home health aide visits may have occurred at the expense of
16
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Medicaid or other medical/social support systems, whether in the form of paid or unpaid
caregiving. These larger impacts are beyond the realm of the Medicare program, but they
are nonetheless important to Medicare beneficiaries, their families, and other payers.
Within the realm of Medicare, however, remains the question of the cumulative impact of
all of the post-acute care settings system changes on Medicare utilization, spending, and
patient outcomes. Several of the studies noted above have commented on this gap in the
literature. In one of the very few recent cross-site studies, Buntin and colleagues (2005)
examined post-acute care use between 1996 and 2003 among patients with hip fractures,
stroke, and joint replacement; they found that the reductions in care in one post-acute care
setting often were offset to some extent by increases in care in another setting. The study
noted that over the seven years, an underlying trend of increasing SNF use across all
conditions developed. Yet, over the same period, the study found that home health care use
was decreasing for hip fracture and stroke and increasing for joint replacement, and that
inpatient rehabilitation care was increasing for hip fracture and joint replacement.
Similarly, Fitzgerald and colleagues (2006) examined home health utilization between
1996 and 2001 among patients with hip fractures and hip replacements, and found that
the nature of home health use shifted from most commonly occurring immediately after
hospitalization to most commonly occurring following SNF or rehabilitation hospital
care. The authors found that this shift occurred within an overall decline in home health
use, from 61 percent of patients in 1996 to 54 percent in 2001. Buntin and colleagues
(2005) found that the overall share of patients using any type of post-acute care remained
fairly stable between 1996 and 2001; they were not able estimate the Medicare spending
impacts of the changes they witnessed among settings. This will likely be a focus of
future research in post-acute care, however, as policymakers and researchers look beyond
the individual post-acute care setting payment reforms and turn toward assessing the
impact of care and spending across post-acute care settings.
CONCLUSION
Although the PPSs that Medicare applies to post-acute care settings are relatively new
policies, the evidence to date clearly suggests that they have reduced the level of
Medicare post-acute care spending growth relative to the levels witnessed under the
previous cost-based payment policies. Providers reacted to the new payment systems by
reducing cost inefficiencies, particularly in their provision of ancillary services. Some
also altered their mix of patients or their product. Most studies examining patient
outcomes have found fairly little or no change in key indicators such as rehospitalizations
or reduced function.
However, the introduction of PPSs to post-acute care settings has introduced an
additional complicating factor to understanding and predicting the placement of a patient
in a particular post-acute care setting. Physician preference, patient/family preference,
geographic availability, health care market factors, and insurer coverage and payment
rules—in addition to patient clinical status and care needs—all play a part in determining
patient placement in a post-acute care setting. Thus, an important issue is to better
understand these factors and the role and impact of Medicare’s payment systems on postacute care patient placement and the implications of placement on quality and efficiency.
Research and development of a cross-site patient assessment instrument is currently
underway and should provide policymakers and researchers with a single, common
17
Cost Containment in Medicare: A Review of What Works and What Doesn’t
metric for characterizing patients’ clinical and functional characteristics and needs across
post-acute care settings.
PHYSICIAN PAYMENT
In 2006, Medicare spent about $58 billion on services paid under the physician fee
schedule, or about 15.7 percent of total Medicare spending of $379 billion (CBO 2007b).
Physician spending in 2006 was nearly 70 percent higher than in 2000, a growth
exceeding 9 percent annually over the six years, reviving long-time concerns about
rapidly rising physician expenditures in Medicare. A June 2007 report of the CBO
observed that average spending on physician services per beneficiary grew nearly three
times faster than spending for all other Medicare services over the period 1997–2005.
Increased physician spending also pushed the beneficiary Part B premium higher, from
$50 in 2001 to $96.40 in 2008.
This is not a new issue for Medicare. Over the 37-year period 1968–2005, Medicare
spending on physician services increased at an average annual rate of 8.9 percent, but
with significant variation over different periods (see table below). Medicare’s original
charge-based reimbursement system had a built-in incentive for physicians to increase
their charges, and from 1968 to 1975 physician spending grew at an average annual rate
of nearly 9 percent. Efforts to control these increases began in 1972 when Congress
legislated a cap on annual inflation in allowed physician charges using a measure of input
costs, the Medicare Economic Index (MEI). It failed. Following its implementation in
1975, spending soared at an average rate of 16 percent annually over the next 10 years,
1975 to 1984.
1968–
1975
1975–
1984
1984–
1986
1986–
1988
1988–
1991
1991–
1998
1998–
2005
1968–
2005
Average Annual Increase
in Total Reimbursement
per Enrollee
Average Annual Increase
in Prices
8.9%
16%
6.6%
11.4%
8.5%
2.0%
7.4%
8.9%
4.4%
8.6%
0.5%
4.2%
0.3%
2.7%
2.4%
4.1%
Average Annual Increase
in Volume and Intensity
4.3%
6.8%
6.0%
6.8%
8.2%
-0.7%
5.0%1
4.6%
Source: Authors’ calculations based on data taken from Medicare trustees’ reports for 1987, 1997, and 2006 (Board of Trustees
1987, 1997, 2006).
1
A June 2007 CBO report (CBO 2007b) found that the volume and intensity of services grew an average of 4.2 percent annually
during 1997–2005 and that prices fell an average of 0.6 percent annually. CBO adjusted spending for inflation using the MEI and
applied a decomposition analysis to split out prices and the quantity of services. CBO used a nine-year sample of 2.7 million
beneficiaries with an average of about 300,000 beneficiaries each year.
18
Cost Containment in Medicare: A Review of What Works and What Doesn’t
FREEZE ON PHYSICIAN CHARGES
Unable to control spending growth and facing rising federal deficits, Medicare froze both
physicians’ charges and their reimbursement levels from July 1984 through December
1986—thereby protecting beneficiaries by freezing charges, not merely Medicare
payments. During the freeze, price levels barely increased, but total payments to
physicians still rose 6.6 percent annually due to increases in the volume of physician
services provided and the complexity of those services, which increases their cost. (The
complexity of services is often referred to as intensity. This report will refer to the
combined sources of these increases as changes in volume and intensity). When the price
freeze ended, Medicare payments to physicians rose dramatically at an annual rate of
more than 11 percent (1986–1988).
In legislation enacted in 1987, 1989, and 1990, Congress reduced Medicare payments for
several surgical and nonsurgical procedures considered to be “overpriced,” again
protecting beneficiaries from physicians’ balanced billing. Still concerned with rising
expenditures, in 1989 Congress directed implementation, beginning in 1992, of the
current Medicare physician fee schedule setting payment rates for each of the more than
7,000 physician services. Each service’s rate is based on the relative amount of resources
required for physicians to provide the service compared with other services. The
legislation also included limits on how much physicians could balance bill beneficiaries.
Perhaps most significant, because physician payment would remain fee-for-service, the
new payment system set annual spending targets designed to slow the rate of growth in
total spending on physician services.
Policymakers expected that the advent of more accurate prices for individual services
would reduce the incentives to oversupply services whose rates were too high and to
undersupply services that were underpaid, while the expenditure targets would address
the problem of increased aggregate volume and intensity (McGuire and Pauly 1991;
Physician Payment Review Commission [PPRC]1993). As envisioned, over the first
seven years of the fee schedule, 1992–1998, spending for physician services grew only 2
percent a year, the lowest rate the Medicare program had experienced. Even growth in the
volume and intensity of services subsided, actually declining at an annual rate of -0.7
percent, suggesting that the payment methodology was working as intended.
Unfortunately, the effectiveness of the new controls declined after 1998; from 1998
through 2005, spending growth was 7.4 percent annually, although still below the longterm average of 8.9 percent. As discussed below, many policy experts believe the
problem lies in the design of the system of spending targets.
FEE SCHEDULES AND PHYSICIANS’ RESPONSE TO PRICE CHANGES
Most of the PPSs discussed in this report pay for a bundle of services, thus encouraging
efficiency and fundamentally changing the incentives providers face. In contrast, under a
fee schedule, incentives for efficiency are absent. Indeed, how physicians respond to
price changes in individual services is an important issue. Medicare’s new fee schedule
reduced many rates substantially, mostly for surgery and other procedures; policymakers
and researchers expected physicians to compensate for the cuts by increasing the volume
and intensity of services they provide. Lower prices for services also would mean
reduced beneficiary coinsurance and possibly greater consumer demand for services.
19
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Numerous studies have investigated how spending on physician services responds to
price changes and the extent to which the volume and intensity of services increase. The
response to price changes is fundamental to the effectiveness of fee schedules as a policy
tool. Many researchers had found that freezes or cuts in payment rates were associated
with an increase in the volume and intensity of services, allowing physicians to partially
recover otherwise lost income (Christensen 1992; Rice 1983, 1984; Rice and McCall
1982; Yip 1998). Consistent with this research, CMS applied a behavioral adjustment in
setting payment rates under the fee schedule. CMS reduced payment rates based on an
assumption that physicians would increase the volume and intensity of their services
sufficiently to recover 50 percent of the income lost due to price reductions.
However, the Physician Payment Review Commission (PPRC), a predecessor to
MedPAC, found that the behavioral response was an overall volume and intensity
increase of 36 percent, which represented a net change of a 48 percent increase for
procedures with fee reductions and an 18 percent decrease for services experiencing fee
increases (PPRC 1993). The PPRC also found that surgeons’ behavioral response was
smaller than that of nonsurgeons and that surgeons’ response diminished with successive
rounds of payment reductions, with surgeons recouping only 17 percent of cuts in the
third round of reductions compared with 60 percent for nonsurgeons. Across all
physicians and over the three sets of reductions between 1987 and 1990, PPRC found an
average behavioral response of 30 to 40 percent (PPRC 1993).
In contrast, other researchers have found opposite effects of price cuts. Escarce (1993a)
found a substantial and consistent decrease in volume growth for the affected surgical
procedures and a small, nonstatistically significant decrease in the total amount of
services provided by five surgical specialties after the 1987 overpriced procedure
reductions. He concluded that the results may indicate that decreases in Medicare prices
had no effect on demand. A similar response was found by Gruber, Kim, and Mayzlin
(1999) in their investigation of Medicaid fee differentials between cesarean and normal
deliveries. They found a positive response to prices (i.e., more services at higher prices,
fewer services at lower prices) rather than the inverse relationship of the previous volume
offset studies.
Like Escarce, McGuire and Pauly (1991) criticized the earlier studies’ thesis that
physicians respond to price cuts by increasing their volume and intensity to reach a
“target income.” They argued that when a price is changed for a service representing a
relatively small portion of a practice’s total income, the usual response would be to
provide more of the service if the price increased and fewer services if it decreased. They
also observed that responses to income changes occur at the practice level, not at the level
of individual procedures, and that price changes should be evaluated with consideration
of their combined impact on practice income. McGuire and Pauly also suggested that
physicians might shift a portion of their volume to private payers, a phenomenon
documented empirically by others researchers (Rice, Stearns, and Pathman 1999; TaiSeale, Rice, and Stearns 1998).
In 1998, CMS actuaries revisited the issue of physician response to price changes. Based
on their own analysis of Medicare claims from 1994 to 1996 and a review of other
studies, they reduced the behavioral offset from one-half to one-third, beginning with rate
setting for the 1999 fee schedule (Codespote, London, and Shatto 1998). Similarly,
another government study of physicians’ response to price changes recently found that
20
Cost Containment in Medicare: A Review of What Works and What Doesn’t
physicians recover about 28 percent of lost revenue due to price changes through
increases in volume and intensity (CBO 2007b). This finding, however, was not
statistically significant.
In a 2006 study, Hadley and Reschovsky found that the volume and intensity of Medicare
services increase when prices go up and fall when prices drop (a positive relationship, as
was found by Escarce and Gruber) and that physicians seeking to increase revenue will
tend to increase the intensity of the services they provide, rather than the volume. They
also found that the level of physician services in Medicare is sensitive to factors other
than the Medicare price, such as the number of people covered by private insurance, the
generosity of private coverage, and the level of nonelderly people’s incomes. They noted
that the recent increase in the volume of Medicare physician services may be due in part
to the decreasing number of people covered by private insurance, cuts in the generosity of
private coverage, and the slowdown in the growth of nonelderly people’s incomes
(Hadley and Reschovsky 2006).
Because the literature is contradictory on key issues of concern, only general conclusions
emerge. First, physicians’ responses to price changes are complex, dependent on multiple
factors, and difficult to predict. Second, their responses may vary by type of service and by
the size of the price change; large reductions affecting a substantial share of physicians’
practice income are more likely to lead to volume and intensity growth, perhaps due both to
physician response and consumer demand. Reductions of this magnitude occurred in 1987–
1993 and are the source of data for studies showing the greatest price response. Third,
nonsurgical and primary care services exhibit greater price responses than surgical services,
especially major surgical procedures. Finally, most researchers believe that physicians will
provide more of a service if its price increases and less of a service if its price decreases,
although the empirical evidence remains inconclusive.
Hadley and Reschovsky (2006) argue against the view that physician ability to respond to
fee schedule reductions by increasing volume and intensity render the fee schedule
ineffective as a tool to limit costs. They observed that the volume of physicians’ services
delivered to Medicare patients is very sensitive to Medicare prices and that fee reductions
will lower program costs, not increase them. The authors believe the fee schedule could
be a more effective tool in controlling costs and guaranteeing access if fees could vary
across geographic areas in response to differences in service volume or local market
conditions, such as the supply of physicians.
EXPENDITURE TARGETS
The Medicare Volume Performance Standard (VPS) under the original 1992 target
system set annual spending targets based on four factors: increase in the number of feefor-service beneficiaries enrolled in Medicare Part B; growth in the cost of providing
services; changes in law or regulation; and the average increase in volume and intensity
using a five-year historical moving average. To move away from the historical rates of
growth incorporated by the fourth factor, Congress reduced the performance target under
the VPS by 0.5 percentage point initially, then increased it by 2.0 percentage points
(1992–1993), 3.5 percentage points (1994), and finally by 4.0 percentage points (1995).
Actual average volume and intensity growth, which had been about 7.6 percent during
1986–1991, fell substantially in the initial years of the fee schedule. This success,
however, consequently caused future performance targets using the five-year moving
21
Cost Containment in Medicare: A Review of What Works and What Doesn’t
average to decrease significantly and unacceptably. As the VPS targets fell and became
increasingly difficult to meet, Congress in the BBA addressed the problem and other
flaws by replacing the VPS with the Sustainable Growth Rate (SGR), the system
currently in effect. One of the most significant changes involved substituting real per
capita growth of the GDP for the five-year moving average increase in volume and
intensity, thereby limiting annual growth in the volume and intensity of services to the
rate of economic growth.
According to GAO congressional testimony in 2002, “Since 1992, the growth in the
volume and intensity of physicians’ services per Medicare beneficiary has moderated.
Between 1992 and 2002, the average annual increase in Medicare spending due to
changes in volume and intensity of services per beneficiary was about 2 percent. In
contrast, between 1985 and 1991, immediately before the introduction of spending
targets, volume and intensity of services per beneficiary increased at an average annual
rate of about 8 percent” (GAO 2002c). In its view, spending targets create a feedback
mechanism between physicians’ behavior and payment rate increases. Acknowledging
the lack of any direct incentive for individual physicians, GAO believes the primary
value of spending targets is the signal they send about the affordability of the program.
GAO reached similar conclusions in 2004 but also observed that growth in volume and
intensity had begun to rise since 2000, albeit at a rate below what had prevailed in the
years before spending targets (GAO 2002c, 2004a).
While there is no rigorous evaluation of Medicare savings achieved by the fee schedule
and spending targets, a rough approximation of possible savings can be posited by
comparing actual physician spending in the period 1992–2003 with what that spending
might have been had volume and intensity continued at the average annual rate during
1985–1991. Using this approach, estimated savings for the 12-year period are about $18
billion, or around 4 percent (authors’ calculation).
Considering the gradual return to higher rates of growth in volume and intensity since
2000, it appears that the expenditure targets have become significantly less effective over
time. Perhaps individual physicians experienced some incentive to constrain utilization
initially; this may have diminished, however, as they developed a fuller understanding of
the hidden incentives. A physician who constrains utilization faces a double penalty: the
loss of revenue from forgone services and a lower payment rate in the future due to
reductions imposed when other physicians increase their volume and intensity (GAO
2002c, 2004a; MedPAC 2002a, 2006a; Newhouse 2002).
The table on page 23 shows volume and intensity growth since 1998 in comparison to
growth in real GDP, clearly demonstrating the rising level of “excess” growth. Recent
growth rates (2000–2005) vary significantly by type of service, from 7 to 10 percent
annually for minor procedures, imaging services, and diagnostic tests, to less than 4
percent annually for evaluation and management (visits and consults) and major
procedures (e.g., major surgery) (MedPAC 2007b).
22
Cost Containment in Medicare: A Review of What Works and What Doesn’t
1998
1999
2000
2001
2002
2003
2004
2005
Volume and Intensity
1.6%
3.3%
3.4%
5.9%
7.1%
6.2%
8.0%
7.5%
GDP per capita (10-yr moving
average)
V&I less GDP
1.8%
1.9%
2.0%
2.2%
2.1%
2.0%
2.3%
2.3%
-0.2%
1.4%
1.4%
3.7%
5.0%
4.3%
5.8%
5.2%
Source: CMS letter to MedPAC, April 7, 2006
Incentives toward restraint resulting from the SGR are further diminished because the
extreme rigor of limiting volume and intensity growth to real GDP, about 2.1 percent per
year on average, combined with the cumulative aspect of the SGR creates targets that are
not achievable. The years immediately following implementation of the fee schedule are
the only period during which growth in volume and intensity was at or below 2.1 percent.
Congress has repeatedly averted large negative updates of 4 percent or greater that would
have occurred each year due to spending exceeding the targets. At the same time,
Congress has exacerbated the problem by overriding the negative updates without
changing the SGR allowance to reflect the higher updates. It is as if physicians were
given a loan by Congress to be paid back in future years on top of each future year’s
inevitable additional debt. The increment to the debt each year results from the built-in
structural problem that the SGR’s allowance for volume and intensity growth is
unrealistically low. Currently, physicians are facing the prospect of at least nine years of
negative updates of about -5 percent annually. Under current law, physician fee schedule
rates would fall nearly 40 percent over the next 10 years while the cost of providing care,
as measured by the MEI, would increase about 20 percent over the same period, 2008–
2017, for a real reduction equivalent to 60 percent (based on projections in the 2008
Trustees Report as modified by the updates provided in the recent MIPPA
legislation)(CBO 2008, CMS 2008b).
MedPAC has identified three major issues in the SGR: It fails as a volume control
mechanism because it is a national target with no incentive for individual physicians to
control volume; it is inequitable because it treats all physicians and areas of the country
the same regardless of their utilization behavior; and it treats all volume increases the
same, whether or not they are desirable. After examining numerous alternative methods
for measuring performance and setting targets (including defining spending pools
geographically or by type of service), MedPAC recommended in March 2007 that
Congress consider two alternative paths for reform. The first path would repeal the SGR
and replace it with the update methodology used for other providers, while the second is a
major reform that would expand the SGR to include physician, hospital, and other
services in the spending targets and make them geographically based. Both paths would
have high budget costs. In addition, to control spending, the first option would be
accompanied by robust performance measures, including efficiency measures—measures
that are still in the early stage of development. Similarly, the alternative path raises
extremely difficult technical and political issues and lacks details (MedPAC 2007b).
IMPACT ON BENEFICIARIES
With downward pressure on prices created by the Medicare resource-based fee schedule
and the SGR formula, policymakers have been concerned about beneficiaries’ access to
23
Cost Containment in Medicare: A Review of What Works and What Doesn’t
care. Despite increasing numbers of anecdotes about physicians’ preference for seeing
privately insured patients rather than Medicare beneficiaries, MedPAC’s most recent
report, based on data from several surveys it conducted from 2003 to 2005 as well as
surveys conducted by other organizations, concludes that beneficiary access to physicians
appears to be steady, with most beneficiaries reporting few or no access problems
(MedPAC 2006a).
Reduced spending due to slower growth achieved as a result of the physician fee schedule
and expenditure targets translates into beneficiary savings through lower Part B
premiums and copayments. Building on the rough estimate of Medicare program savings
for the first 12 years of the fee schedule, 1992–2003, beneficiaries saved about $9 billion
in lower Part B premiums and reduced copayments over this period—a savings of more
than 4 percent (authors’ calculations). When Congress acts to avert payment decreases
associated with the SGR formula, an untoward effect is the increase in the Part B
premium that beneficiaries face. AARP and other beneficiary groups have urged
Congress to protect beneficiaries against premium increases, but the temporary increases
enacted to date have not included such protection.
CONCLUSION
The 1992 physician fee schedule and companion expenditure targets were initially
effective. Over the period 1992–2003, they reduced the growth rate of spending on
physician services, with substantial savings to both the government and beneficiaries,
without diminution of beneficiary access. Recently, however, growth rates have edged
back toward the high historical levels that preceded the reforms, prompting widespread
agreement that significant adjustments in the 1992 system are urgently needed. MedPAC
has identified three areas for attention: (1) address overpriced and underpriced services to
improve the accuracy of the fee schedule rates; (2) base payment amounts partly on a
broad set of performance measures, including efficiency measures; and (3) reform the
SGR to create a system of meaningful incentives to control aggregate spending growth.
OTHER PAYMENT APPROACHES
Additional provider payment strategies have been explored as alternatives to cost
reimbursement, prospective payment, and fee schedules. Some of these strategies have
shown promise as cost containment tools, but to date, they have not been adopted as
Medicare payment policy. Most notable among them are bundling payments across sites
of care and price setting through a competitive bidding process.
BUNDLING FEE-FOR-SERVICE PROVIDER PAYMENTS
Several advantages to bundling Medicare fee-for-service payments across sites of care
have been identified. First, it would encourage efficiency by rewarding the provision of
care in the least costly setting. In particular, movement of patients between sites—such as
discharging patients from inpatient hospital treatment to care in a skilled nursing or
rehabilitation unit of a hospital—to maximize total reimbursement would be discouraged.
Second, bundling payments for an episode of illness could correct for incentives created
when Medicare payments for the same service vary across sites of care, which can result
in patients being treated in the site most profitable to the provider, whether or not it is the
most clinically appropriate or convenient for the patient (Newhouse 2002; Welch 1998).
24
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Third, bundling payments can align incentives across providers who might otherwise be
insensitive to the total cost of care. For example, surgeons paid independently of
hospitals have little incentive to manage their use of hospital resources efficiently
(MedPAC 2003b).
A potential downside identified for beneficiaries is the possibility that under bundled
payments, providers would withhold needed services to maximize profit (Lee, Ellis, and
Merill 1996). The incentive to limit provision of services holds true for the separate
prospective payment systems for inpatient hospital, rehabilitation hospital, home health,
and skilled nursing facility care as well, as these systems bundle payment for all the
individual services delivered during the patient stay episode (Newhouse 2002).
Models of bundling post-acute care services have been developed (Lee, Ellis, and Merill
1996; Neu et al.1986; Welch 1998), but they have not been implemented. Medicare is
focused instead on instituting separate PPSs for post-acute care providers, as discussed
earlier. Provider objections to bundling focus on the implications of which entity would
receive the bundled payment, with freestanding post-acute care providers concerned
about relying on hospitals for referrals and payment. In lieu of bundling, Medicare
ultimately moved to lessen the incentive to shift inpatients into a post-acute care setting
by lowering inpatient hospital payment for early discharges to these sites, a provision that
was estimated at the time to generate five-year savings of $1.3 billion (CBO 1997a).
A 1990s demonstration program involved bundling physician and hospital payment for
coronary-artery bypass graft surgery (CABG). Conducted at seven sites, the
demonstration was found to be successful in reducing both Medicare expenditures and
beneficiary cost sharing and in increasing the quality of care. Program savings for the
five years of the demonstration were estimated at $42 million, or about 10 percent of
what would otherwise have been paid, while reduced beneficiary cost sharing was
estimated to total $8 million. Negotiated discounts in the bundled global payment
accounted for the majority of the savings, but lower-than-expected postdischarge care and
shifts in market share to lower cost demonstration facilities also accounted for savings
(Cromwell et al. 1998).
Hospitals participating in the CABG demonstration had to meet quality and service
criteria and were allowed to identify themselves as Medicare Participating Heart Bypass
Centers. In exchange for potential increased market share, competitive pricing was
expected. Effects on market share and volume varied among the participating hospitals,
largely due to unique local circumstances, with some hospitals experiencing declines.
The demonstration did not provide for a complete test of selective contracting, however,
because Medicare beneficiaries were not restricted to using the designated providers
(Cromwell et al. 1998; MedPAC 2003b). MedPAC concluded that because the
demonstration tested several policy features simultaneously—namely, restructuring
payments, competitive pricing, and designating “centers of excellence”—the results were
difficult to interpret. Other hospital-physician payment bundling demonstrations were
attempted but not implemented owing to a variety of operational factors, resource
constraints, declining provider interest, and even overt provider opposition (MedPAC
2003b; Wynn 2006).
The physician-hospital “gainsharing” demonstration initiated in 2006 will examine some
of the same issues by permitting hospitals to share with physicians any savings from
collaborative efforts to improve efficiency and quality (CMS 2006d). Moreover, in May
25
Cost Containment in Medicare: A Review of What Works and What Doesn’t
2008 CMS began soliciting applications for a new Acute Care Episode demonstration,
which will involve bundling hospital and physician payments for certain inpatient cardiac
and joint replacement services (CMS 2008a).
The Medicare Physician Group Practice Demonstration, under way at ten sites since
2005, offers financial incentives to physician groups that succeed in meeting per capita
expenditure and quality improvement targets for their Medicare patients relative to a
comparison group. While payments are not bundled, all Medicare expenditures are
included in the physician group targets, so physician financial rewards are tied to use of
hospital care and other services (CMS 2005a). After the first year of the demonstration,
which focused on diabetes care, two sites achieved high enough performance on quality
and cost-efficiency measures sufficient to enable them to share in a total of $9.5 million
in estimated program savings. Other sites also had expenditure growth rates for the
demonstration populations in their areas that were lower than those of comparison group
populations, but not low enough to earn financial bonuses under this “shared savings”
approach. (Trisolini et al. 2008)
COMPETITIVE BIDDING
One advantage ascribed to competitive bidding as a means of setting payments is that it is
more flexible than a purely administered price system. Adequate and timely information
about the nature of the market for the service in question is not available to those
determining administered prices. Market changes in response to technological change or
movement in labor markets are not quickly recognized in such prices. By contrast,
competitive bidding can adjust to market conditions and provide incentives to keep prices
low and to promote an appropriate mix of services. Because competitive bidding can
result in less provider choice and potentially lower quality services, implementation
concerns include maintaining beneficiary access to quality care. In addition, some argue
that Medicare, as a large payer, should consider the potential effects of policy changes on
the available supply of service providers. Finally, the bidding process must be carefully
designed and monitored to ensure competition and protect against bid rigging (Hoerger
and Meadow 1997; MedPAC 2003b).
The use of competitive bidding to set Medicare payments has been considered and
rejected on numerous occasions, although implementation appears closer than in the past.
In particular, durable medical equipment (DME) and clinical laboratory services have
been identified as services for which this approach might be appropriate, because their
nature makes for relatively easy identification of standardized bidding units.
As required under the Medicare Modernization Act of 2003 (MMA), in April 2007, CMS
issued a final rule on competitive bidding for DME, with phased-in implementation of the
bidding process for specific product categories in ten urban locations beginning in 2007, with
prices initially expected to take effect in April 2008. The bidding system was to be expanded
to other locations and products in future years (CMS 2007d). The final rule reflected
experience gained in an earlier Medicare demonstration project for competitive bidding of
DME. Conducted at two sites, the demonstration yielded positive results with respect to cost
containment, but it also identified a series of implementation issues key to the success of this
approach. Estimated program savings of about 20 percent were achieved in each site, without
changing beneficiary access to DME or quality of services received.
26
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Due to concern about how the program was being implemented, Congress in the
Medicare Improvements for Patients and Providers Act of 2008 (MIPPA) terminated the
contracts awarded to the ten urban locations in round one and instructed CMS to conduct
a new round of competitive bidding to begin in 2009. The complexities of administering
an ongoing competitive bidding process add to program costs, but potential savings from
a national program were estimated to be twice the administrative costs. The
demonstration evaluation included an estimate of the cost of operating a national
competitive bidding program in urban areas like the ones tested in the demonstration
project: $69 million, requiring 670 full-time equivalent employees. In general,
beneficiary access and quality were maintained, although the evaluation identified the
key role of hospital discharge planners and other referral agents in linking beneficiaries to
appropriate, better quality suppliers. Concentration on high-volume services with a
relatively large number of suppliers is seen as the most promising approach for program
savings (GAO 2004b; Karon et al. 2003; MedPAC 2003b).
A demonstration program for competitive bidding for clinical laboratory services was
designed by the Health Care Financing Administration (HCFA) in the mid-1980s
(Mennemeyer et al. 1987). Although Congress blocked implementation of any such
demonstration program for a decade, a demonstration was subsequently required under
the MMA. CMS planned implementation of a newly designed demonstration project on
competitive bidding for clinical laboratory services in 2007 (CMS 2006c). However,
MIPPA repealed the demonstration program for clinical laboratory services.
INHERENT REASONABLENESS AUTHORITY
Competitive bidding is not the only method of determining market prices. For example,
surveys have been conducted of retail prices for medical equipment and supplies
generally available in retail outlets. The Social Security Act and corresponding
regulations have long allowed CMS to determine whether the standard method for
determining payments results in amounts that are unreasonably high or low. Regulations
promulgated in 1975 specifically provided for the use of “other factors that may be found
necessary and appropriate with respect to a specific item or service to use in judging
whether the charge is inherently reasonable” (GAO 2000b).
Following several reports that Medicare was overpaying for medical equipment and
supplies, Congress, in the 1997 BBA, expanded CMS’s options for making inherent
reasonableness adjustments. In particular, the law no longer required CMS to use formal
rulemaking to make annual adjustments of no more than 15 percent. In 1998, HCFA
described in regulations the process to be used in determining when payment amounts are
not inherently reasonable, as well as those to be considered in establishing reasonable
payment amounts.
In response to industry objections, however, use of this new authority was subsequently
delayed, and Congress imposed further requirements on HCFA under the Balanced
Budget Refinement Act, enacted in 1999. A final rule on the application of inherent
reasonableness to payment policy was promulgated in December 2005, but this new
methodology has not yet been applied (CMS 2005b).
27
Cost Containment in Medicare: A Review of What Works and What Doesn’t
CONCLUSION
Medicare has explored new payment approaches that show potential for achieving cost
savings beyond the application of prospective payment and fee schedules. Results from
the demonstration project testing bundling of hospital and physician payments for CABG
surgery identified savings of about 10 percent below what would have been paid without
bundling. Two competitive bidding demonstration sites for DME resulted in estimated
savings of about 20 percent compared with traditional program payments without
adversely affecting beneficiary access or the quality of services. Indeed, competitive
bidding for selected DME items is currently being implemented in ten urban areas. While
these approaches hold promise for cost containment, they require a significant
administrative effort that is both time and resource intensive. They also change the
relationship between the program and providers and, in the case of bundling, pose
additional challenges associated with the level of cooperation required among providers
sharing the payment amount. Additional demonstration projects under way that align
hospital and physician incentives short of bundling may point the way toward other
options for improving Medicare payment policy.
BENEFIT DESIGN AND COVERAGE POLICY
BENEFIT DESIGN
Medicare benefits are defined by categories such as inpatient hospital services, physician
services, and durable medical equipment, and specific services within these categories are
covered when they are determined to be reasonable and necessary. In addition, the design
of Medicare benefits includes cost-sharing features intended to reduce federal
expenditures for the program. For example, the indexing of the Medicare Part B
deductible to annual Part B expenditure increases that began in 2004 was estimated to
save $11.6 billion in federal expenditures over ten years (CBO 2003a). In addition to
requiring beneficiaries to contribute to the cost of the medical care they receive,
Medicare’s cost-sharing requirements also have the potential to lessen total health care
spending by reducing beneficiary use of health care services.
COST SHARING AS COST CONTAINMENT
Research based on the 1970s RAND Health Insurance Experiment has demonstrated that
patient cost sharing does effectively reduce use of health care services without affecting
health outcomes for most people. The experiment found, however, that the use of fewer
services by those facing higher cost sharing resulted in negative health outcomes for
lower income, high medical risk individuals, particularly those with hypertension
(Newhouse 2004; Newhouse and the Health Insurance Experiment Group 1993).
Although not without critics, the RAND findings are well accepted because individuals
were randomly assigned to health insurance plans with varying cost-sharing
requirements, and health outcomes were monitored over several years (Rice and
Morrison 1994). Other studies, less comprehensive but more recent, support the finding
that use of medical services declines as prices faced by patients increase (Gruber 2006).
The RAND study excluded the elderly, however, and no similar experimental study of the
effects of cost sharing on seniors exists. A 2004 literature review on this topic found mixed
results, but noted that studies generally found that increased cost sharing for seniors lowers
28
Cost Containment in Medicare: A Review of What Works and What Doesn’t
recommended use of services, such as antihypertensive drugs and screening mammography.
Moreover, Medicare beneficiaries with supplemental coverage were more likely to use
prescription drugs and other appropriate health care services than those without such
coverage, while those affected by payment caps on prescription drugs had inappropriately
low use rates (Rice and Matsuoka 2004). A theoretical and empirical analysis of the impact
of health status on responsiveness to cost sharing supported the intuitive view that cost
sharing has less effect on reducing use of health care services by those in poor health,
concluding that the effects of cost sharing can be overestimated if differentials by health
status are not properly taken into account (Remler and Atherly 2002).
A separate review of the literature specific to prescription drug coverage also found lower
use associated with higher cost sharing. Studies particular to elderly and disabled
Medicaid beneficiaries found that cost sharing led to lower drug use and may have
reduced access to needed drug therapies. Moreover, a study of Medicaid patients found
differential effects of copayments by class of drugs. Patients were more likely to reduce
use of drugs where the effect of the treatment was less obvious to the patient, such as
drugs for hypertension (Hoadley 2005).
MEDICARE’S COST-SHARING STRUCTURE AND SUGGESTIONS FOR CHANGE
Analysis of Medicare’s particular cost-sharing structure has highlighted several areas of
weakness with respect to discouraging unnecessary use of services. As is often noted, the
structure of Medicare cost sharing has been left unchanged since the program’s inception in
1965, and specific cost-sharing requirements are generally seen as poorly targeted. Identified
weaknesses in Medicare’s cost-sharing structure include the relatively high deductible for
inpatient hospital stays, which are generally less discretionary than physician visits and other
outpatient care, where the deductible is much lower. In addition, variation in cost sharing for
outpatient services by site of care is seen as leading to potentially inefficient choices by
beneficiaries and providers. Cited in particular is the high coinsurance on services provided in
hospital outpatient departments relative to other outpatient settings (GAO 2002a; MedPAC
2002b; Maxwell, Storeygard, and Moon 2002).
Most often noted as a benefit design weakness is the lack of a cap on out-of-pocket
Medicare expenditures, which, when combined with the high inpatient deductible and
other cost-sharing requirements, encourages beneficiaries to seek supplemental coverage
for protection from catastrophic expenses (GAO 2002a; MedPAC 2002b; Moon 2006).
While, as noted above, supplemental coverage improves beneficiary access to needed
services, it may also limit the effectiveness of the program’s cost-sharing incentives. A
literature review published in 2001 concluded that supplemental insurance leads to higher
Medicare expenditures, with the extent of the estimated effects varying due to differences
in methodology and data. Increased use of services in the most recent of the studies cited
ranged from 13 to 34 percent (Atherly 2001). A more recent study estimated that the
increase in total Medicare expenditures due to supplemental insurance is 6.7 percent
(Atherly 2002). Moreover, from a beneficiary perspective, Medigap policies can be
expensive and do not fully protect beneficiaries from catastrophic health expenses (GAO
2002a; Moon 2006).
The CBO has estimated that restructuring Medicare cost sharing in Parts A and B by
instituting a single deductible, applying 20 percent cost sharing on all services, and
creating an out-of-pocket cap of $4,500 would generate ten-year savings to the federal
government of $87 billion. Making this change while restricting supplemental coverage
29
Cost Containment in Medicare: A Review of What Works and What Doesn’t
to 50 percent of cost sharing beyond the deductible would reduce program spending by
an estimated $131 billion over ten years (CBO 2005). CBO notes that while beneficiaries
with high medical expenses and no supplemental coverage would benefit from this type
of restructuring and Medigap premiums would be lower for everyone, beneficiaries with
first-dollar coverage would face increased costs for health care services.
Restructuring Medicare cost sharing by combining the Parts A and B deductibles with a
stop-loss coverage has also been considered as a means of improving the program for
beneficiaries at limited federal cost (Maxwell, Storeygard, and Moon 2002; Moon 2006).
These two changes were expected to offer beneficiaries greater protection against large
losses through Medicare, possibly allowing some beneficiaries to forgo supplemental
coverage, which would in turn provide them with additional out-of-pocket savings.
Taking into account the total burden of health care spending—including Part B
premiums, cost sharing, premiums for supplemental insurance, and the cost of uncovered
acute care services—the elderly paid an estimated 23 percent of income on acute health
care services in 2004, a figure projected to increase over time (Moon 2006).
LIMITS ON MEDICARE BENEFITS
Medicare has imposed limits on coverage of some benefits as a cost containment device.
Most notable is the “doughnut hole” in the prescription drug benefit. One recent study of
Medicare Advantage enrollees predating Part D suggested that this type of limitation may
increase other program expenses. It compared use of services by Medicare beneficiaries
with and without caps on their prescription drug coverage. Savings from reduced drug
expenditures under the cap were offset by increased expenditures for emergency room
treatment and inpatient hospital stays (Hsu et al. 2006; Thorpe 2006).
Another benefit limitation involves outpatient therapy services. Two annual perbeneficiary spending caps were in place during calendar year 1999, one on physical
therapy and speech-language pathology services and another on occupational therapy
services. They were found to have reduced the use of services, although simultaneous
changes to payment policy had a larger cost containment effect (Maxwell, Basseggio, and
Storeygard 2001). Congress suspended the caps, and within four years, spending on all
outpatient therapy services almost doubled. The caps were re-instituted for 2006 with an
exceptions process aimed at protecting access to care for beneficiaries who need services
beyond the capped level. MedPAC (2006b) has recommended consideration of
alternative approaches that would ensure that beneficiaries receive needed care without
encouraging medically unnecessary treatment.
POTENTIALLY COST-SAVING BENEFITS
Scope of benefits can also serve as a cost containment feature. In particular, coverage of
certain services can be cost saving if their use means that other, more expensive services
are avoided. For example, Medicare’s hospice benefit was added to the program in 1982
at least in part for its cost-saving potential. It provides palliative care services not
otherwise covered under Medicare to terminally ill patients willing to forgo curative
treatments. Early studies found that Medicare beneficiaries enrolled in hospice had lower
average program expenditures than others (Kidder 1992; Mor and Kidder 1985). A more
recent analysis concluded that while Medicare savings are achieved for cancer patients,
those with other diagnoses add to program costs, as do all hospice patients over age 85,
resulting in an overall net cost for this benefit (Campbell et al. 2004).
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
Although it originally limited coverage to items and services required in the diagnosis
and treatment of acute illness, Medicare has in recent years expanded its coverage of
preventive health services. These include a “welcome to Medicare” physical, various
cancer screenings, and certain immunization services. Advocates often describe
investment in preventive services as cost saving, yet evaluations support this claim for
only a few preventive services, including pneumococcal and flu vaccines for the elderly,
which are covered by Medicare. Cancer screenings and other preventive benefits have
been found to be cost-effective as measured by the costs per life-year gained (Centers for
Disease Control and Prevention 1999), but not cost saving to the Medicare program
(CBO 2003a).
CONCLUSION
Beneficiary cost sharing has been a feature of Medicare since its inception and will
always remain a tool for limiting the cost of the program. The literature both supports the
role of cost sharing as a means of cost containment and admonishes policymakers to
consider the potential for underuse of needed care. A considerable literature reports that
use of medical services declines as prices faced by patients increase. Recent studies of the
effects of cost sharing have mixed results, including, in some instances, evidence of
inappropriately low use of some important preventive services and maintenance drugs for
chronic conditions. Restructuring Medicare cost sharing to a single deductible, requiring
20 percent coinsurance, and imposing an annual out-of-pocket spending cap would
generate substantial savings, especially if limits were placed on the scope of
supplemental coverage, but would make some beneficiaries worse off. Beyond cost
sharing, other features of benefit design offer opportunities for cost containment. In
particular, limiting the frequency or amount of certain benefits—such as drugs or therapy
services—has been shown to reduce use but may be associated with increased
expenditures elsewhere.
COVERAGE POLICY
Decisions on what services are covered for payment matter greatly; without Medicare or
other insurance coverage, most beneficiaries will not have access to some medical services,
especially if they are costly. But coverage of new technology also drives health care
spending. Economists suggest that medical advances account for most of the annual increase
in health care spending after adjusting for inflation, about 2.5 percent a year. While many
economists and the CBO assert that this rate is not sustainable in the long run, they also
observe that technology-related increases in the United States are similar to experiences in
other developed countries (Anderson et al. 2005; CBO 2007c; Newhouse 1993)
Arguing for incorporating cost as a criterion for making coverage decisions, researchers
such as Muriel Gillick concluded that many coverage decisions not only have major cost
implications, but that the resultant expenditures do not represent good value for the
Medicare program. Gillick estimated the cost of Medicare decisions for lung volume
reduction surgery (LVRS), implantable cardioverter-defibrillators (ICDs), and left
ventricular assist devices (LVADs), finding that collectively the three interventions could
ultimately affect more than 200,000 beneficiaries a year at a projected annual cost of $1.3
to $11.4 billion. She asserted that if a technology were required to demonstrate a costeffectiveness ratio of not more than $50,000 to $100,000 per quality-adjusted life-year,
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
then neither LVRS nor LVADs would have been approved, and ICDs would have been a
close call (Gillick 2004). Some analysts have suggested that even technological advances
that are considered cost-effective today may not be economically sustainable in the future
(Berenson and Holahan, 1992; Garber 2001; Goldman et al. 2005; Lubitz 2005; Shekelle
et al. 2005).
While the initial decision to cover a major new technology often is based on rigorous
clinical trials needed for marketing approval by the Food and Drug Administration (FDA)
and occasionally is supplemented by cost-effectiveness studies, the cost and value in
actual use may differ substantially from clinical trial experience. Once covered, the
service will be performed in less controlled settings, including a broader group of
facilities, and by clinicians who were not part of the clinical trial. Patient selection,
rigidly controlled in a clinical trial, will vary, and application of the service or technology
may expand to new indications that were not included in the studies that led to FDA
approval. In addition, Medicare often covers a new technology or physician procedure
without making any explicit coverage decision because an appropriate code may already
exist for the service or may have been newly created by the American Medical
Association, which owns and manages the coding system used by Medicare for reporting
physician services.
Medicare and other payers constantly face the dual challenges of making appropriate
coverage decisions for new services and managing dissemination after coverage is
conferred, a difficulty accounting for Medicare’s history of sometimes delaying coverage
of new treatments until there is sufficient real-world experience. Medicare initially issued
national noncoverage decisions, for example, for services such as heart transplantation,
LVRS, electrical stimulation for bone healing, carotid artery stents, and insulin pumps.
Heart transplantation and carotid stent procedures now are covered by Medicare only at
approved centers, and LVRS and electrical stimulation for bone healing are covered only
for specific patient conditions. Similarly, recent coverage decisions for magnetic
resonance angiography (MRA), insulin pumps, positron emission tomography (PET)
scans, and ICDs offered restricted coverage or coverage only under particular
circumstances, referred to as “coverage with conditions.” Actions such as these suggest
the cost-savings potential of using various administrative tools in making coverage
decisions (Carino et al. 2006; Keenan, Neumann, and Phillips 2006).
“REASONABLE AND NECESSARY”
Under section 1862(a) of the Social Security Act, no payment may be made for items and
services that are not “reasonable and necessary” for diagnosis or treatment of an illness or
injury. That language provides statutory authority for Medicare’s coverage decisions,
including setting standards of effectiveness and, potentially, cost-effectiveness. Lacking
regulations to support a more assertive use of its coverage authority, however, Medicare has
not acted as effectively as it might to limit coverage of costly new technology and procedures
or of services of marginal or questionable value. Its attempts in the 1980s and 1990s to
promulgate regulatory coverage criteria failed for many reasons, most prominently the
government’s desire to establish cost-effectiveness or comparative effectiveness as one of the
criteria (Bergthold 1995; Blanchard 2004; Eddy 1996; Foote 2002, 2003; Foote et al. 2004;
Keenan, Neumann, and Phillips 2006; Sage 2003; Tunis 2004).
Initially, Medicare covered whatever services treating physicians determined to be
medically necessary, but in response to rising costs and perceived overutilization, the
32
Cost Containment in Medicare: A Review of What Works and What Doesn’t
program gradually has exploited its coverage authority and embraced evidence-based
decisionmaking. Evidence-based decisionmaking relies on a systematic review of
information from randomized controlled trials (RCTs), other clinical studies, formal
technology assessments, and cost-effectiveness studies, among other sources, and weights
the evidence, giving more weight to higher quality studies. Medicare now bases its
coverage decisions on rigorous, objective evidence and deemphasizes physician specialty
consensus panels and other “softer” information sources (Atkins, Siegel, and Slutsky
2005; Blanchard 2004; Claxton, Cohen, and Neumann 2005; Eddy 1996; Foote et al.
2004; Garber 2001; Mendelson and Carino 2005; Tunis and Pearson, 2006; Tunis, Styer,
and Clancy 2003).
The case of high-dose chemotherapy plus autologous bone marrow transplant (HDCABMT) for breast cancer offers a classic example of the problem of extending coverage
in the absence of clinical evidence. In the 1990s, more than 41,000 patients received this
costly and taxing therapy despite a paucity of clinical evidence of its effectiveness. Most
health plans reluctantly agreed to cover the treatment in response to intensive political
lobbying and the threat of litigation. The results of five major randomized trials, however,
subsequently showed that HDC-ABMT offered no advantage over standard-dose
treatment for breast cancer (Atkins, Siegel, and Slutsky 2005; Mello and Brennan 2001).
In July 2006, CMS issued a guidance document establishing a new policy of “coverage
with evidence development” (CED) to address coverage in situations involving uncertain
evidence. CED links coverage with a requirement for prospective data collection or
participation in a clinical study. Even before the policy was adopted, CMS implemented
CED-type coverage decisions in 2004–2005 when it extended coverage to prophylactic
use of ICDs and made the coverage dependent on participation in a patient registry. A
similar decision was made for use of PET for Alzheimer’s disease and for colorectal
cancer drugs, where coverage for off-label use was mostly limited to approved clinical
trials or uses listed in one of the recognized national compendia.
CED can produce evidence complementary to that from clinical trials and provide a
source of data on real-world use of the service—a type of practical clinical trial, as
several policymakers have advocated (CMS 2006k; Tunis and Pearson, 2006). The more
controlled dissemination of new technology under CED and the data it provides may help
to promulgate coverage rules that limit the cost impact and enhance the value of new
technology. Because CED is new, there are no evaluations in the literature (Carino et al.
2006; Keenan, Neumann, and Phillips 2006; Mendelson and Carino 2005).
NATIONAL COVERAGE DECISIONS
Medicare makes only 15 to 20 national coverage determinations each year, leaving the
vast majority of coverage policies to the local Medicare contractors. Initially all decisions
were left to the local contractors, but as more costly innovations emerged in the 1970s,
local contractors sought more national direction. Heart transplantation presented a major
challenge in the late 1970s, leading first to a national noncoverage decision and later,
after the technology matured, to conditional coverage at approved centers. Medicare’s
national role was established, but the local role remained preeminent.
Neumann, et al. (2005) analyzed 69 national coverage decisions (NCDs) made between
January 1999 and August 2003 and found that CMS’s determinations generally were
consistent with the strength of available evidence. According to Neumann and
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
colleagues, only 7 of the technologies supported with good evidence were felt to provide
a substantial health benefit, whereas 31 provided only moderate health benefit. At the
other end, for 27 coverage decisions the reviewed evidence was rated as fair or poor. In
short, in many cases, CMS makes NCDs without a sufficient evidence base.
Further, CMS’s decisions in the 69 cases extended complete coverage for only 1
technology, provided “coverage with conditions” for 42, left coverage policy to local
contractor discretion for 4, and established national noncoverage for 22. Conditions
placed on the 42 conditional coverage decisions included restricted to patients with
defined disease severity (32 decisions); diagnostic test restricted by specific test threshold
(21 decisions); and restricted to patients who failed first-line therapy (16 decisions).
Noting the gaps in the base of evidence, the authors recommended that Congress and
federal officials fund more pragmatic clinical trials (Neumann, et al. 2005).
The literature lacks good studies of the effect of more restrictive Medicare coverage
policies on program spending. Inferences can be drawn, however, about the impact of
Medicare’s coverage decisions involving specific services such as LVRS. Use of LVRS
was expanding rapidly prior to Medicare’s controversial 1995 noncoverage decision and
subsequent cooperative agreement with the National Institutes of Health (NIH) to sponsor
a national clinical trial, with Medicare coverage available only for patients enrolled in the
trial. Following the trial, Medicare issued a restricted NCD providing coverage only for
certain patients, but use of the procedure has been minimal (Ramsey and Sullivan 2005).
Even without controlled studies, one might safely conclude that such policies to limit
coverage reduce spending initially. Their longer run effect, however, is unknowable. For
example, we cannot know how surgeons would have used LVRS in the long run as they
gained experience with it. Perhaps its use would have centered on the type of patients
identified in the restrictive Medicare policy. Experts, such as Garber (2001), have noted
that evidence-based coverage policies may have limited effects on health spending but
can help direct resources to the most effective care.
LOCAL MEDICAL REVIEW POLICIES
More than 95 percent of Medicare’s coverage decisions are local policies, and most of
them were written to control misuse and overutilization. Foote and colleagues found
considerable variation in the number of policies developed by any one contractor (from 4
to 291 policies) and in their use of cited evidence. More than 80 percent of local
decisions limit coverage to address areas of misuse—termed “utilization management”
policies by Foote. While the researchers found little variation in policies extending or
expanding coverage for new technology, they found substantial variation in the utilization
management policies (Foote 2003; Foote, Halpern, and Wholey 2005; Foote, Wholey,
and Halpern 2006; Foote et al. 2004). The local coverage process also provides quicker
coverage for new technology than would be possible in a purely national process, and this
aspect is praised by manufacturers, physicians, and patient groups—and criticized by
MedPAC, GAO, and some in Congress for its inefficiency, regional variation, and
occasional lack of rigor.
With more rigorous and restrictive coverage determinations, beneficiary access and
appeal rights become more important. Until recently, Medicare beneficiaries had only
limited opportunities to challenge coverage determinations. This situation improved with
Medicare legislation enacted in 2000 and 2003, giving beneficiaries the right to appeal
34
Cost Containment in Medicare: A Review of What Works and What Doesn’t
local and national coverage determination policies as well as the particular coverage
decision made for a specific patient. The legislation also allows beneficiaries to request
an advance coverage determination for certain services before deciding whether to
receive the care (Blanchard 2004; Wachter and Pendleton 2004).
COMPARATIVE EFFECTIVENESS AND COST-EFFECTIVENESS
Cost-effectiveness analysis potentially could complement evidence-based coverage
decisions and improve the efficiency of health care by limiting utilization of costly
procedures having a relatively small benefit. The use of cost-effectiveness analysis,
however, remains very controversial, and neither private plans nor Medicare openly
embrace its formal use, although its actual influence is probably greater as payers weigh
cost considerations “under the radar.” A 2001 national survey of 228 managed care plans
found that only 40 percent of them used formal cost-effectiveness analyses, but 90
percent of them did consider cost in some way. Besides considering costs as one of the
factors in setting coverage policies, plans incorporated costs in deciding when to require
prior authorization, less costly interventions, or other techniques to control the use of
services once covered. The literature does not, however, include studies of the savings
(Garber 2004).
While Medicare failed repeatedly to establish regulations addressing whether and how
costs should be considered in making coverage decisions, it did issue instructions to its
local contractors promoting a concept called “least costly alternative.” Least costly
alternative (LCA) is a policy that must be applied by Medicare contractors when
determining payment for DME. Contractors also may apply the policy to payment for other
services. Under LCA, “Where it is determined that there exists a medically appropriate and
realistically feasible alternative pattern of care for which payment could be made, payment
should be based on the reasonable charge for this alternative” (CMS 2003).
LCA potentially could produce significant savings, but it remains very controversial and,
other than for DME, has rarely been used by Medicare contractors. The one notable
exception is limiting payment for the drug Lupron to the amount paid for its alternative,
Zoladex. Hesitancy to use LCA may be due to continuing strong opposition from
physicians, manufacturers, and patients, as well as lingering questions over its legality,
since the policy was established without notice and comment rulemaking. Also, some
Medicare contractor medical directors believe that in the past, one or two directors were
reassigned or forced out by their employers in retaliation for application of LCA or other
restrictive coverage policies (anonymous interviews, 2006).
The 2003 MMA highlights the political difficulty of making greater use of comparative
and cost-effectiveness. The legislation directs the Agency for Healthcare Research and
Quality to develop comparative effectiveness studies, but it explicitly prohibits it from
mandating national standards of clinical practice and bars CMS from using data obtained
from the studies to withhold coverage of prescription drugs. Moreover, the program was
given very limited funding (Neumann, Rosen, and Weinstein 2005). The MMA also
prohibits Medicare from applying a policy to limit payment for “equivalent” drugs,
termed “functional equivalence” by CMS, unless the specific action was initiated before
enactment of the legislation. CMS had used the policy to set the payment based on the
lowest-priced product in a class when products were determined to have similar
effectiveness within a therapeutic class (Keenan, Neumann, and Phillips 2006; Neumann,
Rosen, and Weinstein 2005).
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
The potential application of cost-effectiveness creates a tension between payers’ cost
containment objectives and physician and patient preferences, as well as a conflict
between the physician ethic to provide the best patient care and cost considerations (Asch
and Hersey 2002; Nadler, Eckert, and Neumann 2006; Reichert, Simon, and Halm 2000;
Sulmasy et al. 2000). Hlatky, Sanders, and Owens (2005) make the point clearly: “… an
insured patient will want anything that may help his or her care, especially for a lifethreatening condition. It is one thing for payers to deny a patient an ICD [implantable
cardiac defibrillator] because it provides no benefit or carries too great a risk, but it is
something very different to deny a patient an ICD that might extend life, on the grounds
that it just costs too much.… This conflict is particularly acute for doctors who have a
duty to do their best for individuals under their care.”
LIMITS ON USE OF EVIDENCE TO MAKE COVERAGE DECISIONS
Using coverage decisions to constrain health care spending could be a daunting costcontrol strategy to implement. Innovation is highly dynamic, and the capacity to complete
studies is limited. Only about 500 literature reviews meeting international quality
standards are published and accessible each year, but experts recently estimated that
about 10,000 reviews would be required to assess the current array of health care
interventions (Gelijins et al. 2005). Impediments to expanding the number of systematic
reviews include resource constraints as well as recurrent opposition from manufacturers,
patient advocates, and some health professionals and providers.
In a recent paper, Wilensky (2006) explored options for the structure, placement,
financing, and functions of an agency to handle and greatly expand comparativeeffectiveness assessments. The focus of the new center would be to fund prospective
trials on key questions for which comparative effectiveness evidence is lacking. The
Wilensky vision encompasses a center ultimately with a multibillion-dollar annual
budget, for which she considers various public and private funding sources, but her
proposal would begin with lower funding. Congress is considering legislation to establish
a center for cost-effectiveness research with modest funding initially.
Applying the results of studies is not straightforward or without controversy. Conclusions
may differ among studies, and interpretation and application of findings to coverage
decisions may involve conflicting value judgments. While medical technology is
constantly changing, clinical studies are necessarily based on findings that are particular
to a specific time and to the clinicians, patients, and settings involved in the study
(Gelijins et al. 2005). Even the gold standard—randomized clinical trials—carries
limitations concerning generalizability because RCTs are performed in specialized
centers, they may exclude elderly patients (especially those with comorbidities), and their
clinical follow-up is limited to a relatively short time period. Policymakers have cited the
need for large-scale observational studies or “practical clinical trials” to complement
RCTs with real-world findings over a longer time horizon (CMS 2005c; Gelijins et al.
2005; Steinberg and Luce 2005; Tunis, Styer, and Clancy 2003).
Medicare’s CED coverage decisions, such as requiring patient registry participation for
ICDs, represent one initiative to bridge this gap, yet there is no guidance from CMS to
describe how CED results might be applied to coverage decisions. Such decisions could
limit beneficiary access to an effective, but costly, treatment. For example, ICDs are
costly and may show decreasing cost-effectiveness for patients less seriously at risk.
Information from the patient registry together with claims data might permit a more
36
Cost Containment in Medicare: A Review of What Works and What Doesn’t
targeted, evidence-based coverage policy in the future if the data suggest that the ICDs
are less cost-effective for certain subpopulations. The dilemma would remain, however,
that most patients at risk for sudden cardiac death will want an ICD because it has been
proved to save lives.
Incorporating Medicare patient perspectives and value judgments into the assessment and
application of studies also poses challenges. Clinicians and patients understandably may
want new treatments even if the evidence is preliminary, while Medicare and other payers
are reluctant to grant coverage prior to having quality studies that demonstrate a
treatment’s effectiveness (Eddy 1996, 1997). Patients also may be willing to accept a
higher level of risk of harm if given the choice to receive a treatment (Gelijins et al.
2005). And lack of evidence of effectiveness may not mean that a health care intervention
is not safe or effective. In fact, most medical care interventions rest on a weak evidence
base, yet are presumed to be effective. Consideration of the strength of evidence by itself
does not account for the potential value of the technology, perhaps suggesting a need to
weigh both the strength of evidence and the potential health benefit in making coverage
decisions (Steinberg and Luce 2005).
Among the factors limiting the acceptance and use of cost-effectiveness studies by
Medicare and other payers are study quality, sponsorship and objectivity, implicit value
judgments, strength of the conclusions, and perceptions surrounding each of these. The
literature shows methodological variation in published cost-effectiveness analyses and
indicates that sponsorship can be a factor in the design of studies. A steady effort to
improve the quality and consistency of cost-effectiveness studies, however, has led to
generally accepted standards for studies and improved methods (Neumann, Rosen, and
Weinstein 2005; Russell et al. 1996; Siegel et al. 1996; Weinstein et al. 1996).
Constrained practically and politically in making restrictive coverage decisions, Medicare
and other payers can apply study findings in various ways to limit the use of services
after a decision to cover them. Techniques might include prior authorization; use of
practice guidelines; physician and provider profiling; establishing lower payment
amounts (for example, LCA); or establishing a system of tiered copayments such as now
is commonly done in prescription drug plans, where patients pay a higher portion of the
cost of drugs found to be less cost-effective or nonpreferred.
Medicare generally does not use prior authorization, which involves case-by-case
assessments of the appropriateness of care prior to its provision, although some creative
local contractor medical directors are finding ways to use the approach in some
circumstances. Prior authorization programs adopted by commercial insurers have
generated physician and patient backlash. Such was the case in the late 1990s when prior
authorization programs led to legislation that required managed care plans to have an
external appeals process. More recently, the MMA limits Medicare administrative
contractors’ ability to implement prepayment reviews. Carriers cannot subject claims to
nonrandom prepayment utilization review based on prior problems unless there is a
likelihood of a sustained or high level of payment error (Wachter and Pendleton 2004).
CONCLUSION
The authority to determine what services are reasonable and necessary and therefore
coverable under Medicare could be a significant tool in the program’s cost containment
arsenal. Although the literature does not include studies of the savings achieved through
37
Cost Containment in Medicare: A Review of What Works and What Doesn’t
coverage decisions, it seems safe to conclude that decisions to deny or limit coverage or
impose conditions on the coverage have produced savings, at least in the short run. Their
longer run effect is less clear, however, because we cannot know how use of a treatment
would have evolved in the absence of the coverage decision, nor can we deduce the longrun costs or savings of new treatments based on time-limited clinical trials.
Looking ahead, Medicare could use its coverage authority more assertively by placing
greater reliance on evidence-based decisions, as it has recently, and by using comparative
and cost-effectiveness analyses. These actions might restrain growth in health care
spending and enhance payer value, but the same powerful factors that account for their
restricted use today will continue to pose difficulty in the future. Chief among these are
the limited number of quality studies; rapid pace of innovation; ethical and practical
considerations in using cost as a criterion; and strong preferences from patients,
providers, and manufacturers to maintain access to all beneficial treatments.
CHRONIC CARE MANAGEMENT
Chronic illness and the conditions of the frail elderly are increasingly recognized as the
main contributors to morbidity, mortality, and health-related costs in the United States
(Anderson and Horvath 2002). Chronic illness and disability may interfere with daily
functioning, require multiple physicians and treatment regimens, and often lead to
expensive institutional stays.
Partly because of medical advances and earlier diagnosis of chronic illness for which
secondary prevention treatments are now available, the number of medical conditions
treated per Medicare beneficiary has risen sharply over time. In 1987, 31 percent of
Medicare beneficiaries received treatment for five or more conditions (Thorpe and
Howard 2006). This group accounted for about half of total spending. Ten years later,
nearly 40 percent of beneficiaries were treated for five or more conditions, accounting for
65 percent of overall spending. And just five years later, more than half of all Medicare
beneficiaries were treated for five or more conditions, accounting for three-fourths of
total spending. Virtually all of the spending growth since 1987 can be traced to patients
treated for five or more conditions. Further, by 2002, about 93 percent of Medicare
spending was incurred by beneficiaries with three or more conditions during the year.
Examined another way, the most costly 5 percent of beneficiaries in each year account
for 43 percent of total Medicare spending (Riley 2007). Although the percentage of
Medicare spending attributable to the top 5 percent has declined from 54.2 percent in
1975 to 43 percent in 2004 (Riley 2007), the impact of disproportionate spending remains
dramatic and suggests the need for strategies focused on reducing the costs for this
relatively small population with high costs (Lieberman et al. 2003). Spending is not quite
as concentrated over periods longer than a year. However, during the most recent fouryear period examined, from 2001 to 2004, the most costly 5 percent still generated 29.8
percent of program spending, suggesting that many high-cost beneficiaries have
persistently high costs over a period of many years (Riley 2007), providing impetus for
programs to intervene in the care management of these beneficiaries, who typically have
one or more chronic conditions. Chronic conditions often cluster. For example, 80
percent of congestive heart failure (CHF) patients and 56 percent of diabetics have four
or more chronic diseases in addition to their index disease (Wolff and Boult 2005).
38
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Yet clinical research, practice guidelines, and physician education rarely consider the
complexity of clinical, social, and financial interactions among multiple comorbidities in
this growing segment of the elderly and disabled population (Boyd et al. 2005).
Physicians have been largely trying to care for these patients on their own; their training
has oriented them to focus on the immediate condition within their expertise. Wagner,
Austin, and Von Korff (1996) have incisively described how the culture and structure of
medical practice often limit physicians’ ability to meet the complex needs of chronically
ill patients, for example, by adopting an attitude of “find it and fix it” or responding to the
“tyranny of the urgent.” These attitudes have for the most part not adapted to the change
in the patient demography and the nature of the clinical challenges posed by the growing
prevalence of chronic conditions in the Medicare beneficiary population.
COST CONTAINMENT APPROACHES FOR BENEFICIARIES WITH
CHRONIC CONDITIONS
Most of the literature on discrete case management and related interventions targeted to
high-risk patients derives from controlled trials in specific institutions under research
conditions, often supported by grant funding to supplement often-inadequate third-party
reimbursement. Many of the interventions have been modeled after the Chronic Care
Model, developed by Wagner and colleagues at the MacColl Institute at Group Health
Cooperative of Puget Sound (Wagner et al. 1996, 2001). Incompatibility between
Medicare and private plan payer approaches has limited the expansion of these models to
mainstream adoption at a significant scale in the Medicare program (Berenson and
Horvath, 2003). It must be emphasized, however, that there are sound operational reasons
why Medicare cannot simply extend fee-for-service reimbursement to the range of
activities encompassed in the Chronic Care Model (Berenson and Horvath 2003). Despite
a long-standing awareness of the need to restructure health care organization, financing,
and delivery to better address the needs of individuals with multiple chronic conditions
and who may be frail, there has been little systematic modification of Medicare policies
to address care for this population (Wolff and Boult 2005).
Randomized, controlled trials of chronic care models (including geriatric evaluation and
management, health enhancement, collaborative interdisciplinary care, transitional care,
chronic disease self-management, and support for family caregivers) have demonstrated
some ability to improve clinical outcomes, limit hospital and nursing home use, and
reduce costs through health care delivery design (Boult et al. 2001; Leveille et al.1998;
Lorig et al. 1999; Naylor et al. 1999; Phelan et al. 2002; Reuben et al. 1999; Rich et al.
1995). However, these programs generally have been introduced in specialized,
“research” environments and not applied broadly in the delivery systems in which most
Medicare beneficiaries seek care.
Similarly, an approach labeled “case management,” which involves identifying high-risk,
often frail individuals with limitations in activities of daily living, regardless of their
specific conditions, and customizing approaches to support these patients has been tried
in numerous settings. Although there is some evidence that case management can be
successful in better coordinating care for at-risk patients, the heterogeneity of
interventions tested and outcomes evaluated complicates analysis of the literature
(Ferguson and Weinberger 1998); Wolff and Boult 2005). RCTs of case management by
nurses or social workers thus far do not substantiate its ability to lower health care costs,
39
Cost Containment in Medicare: A Review of What Works and What Doesn’t
much less consistently improve quality or functional ability (Boult et al. 2000; Gagnon et
al. 1999; Windham, Bennett, and Gottlieb 2003).
Moreover, targeted demonstrations of case management and care coordination in
Medicare have not produced cost savings. From 1993 to 1995, three demonstration
projects were implemented to identify groups of traditional Medicare beneficiaries at risk
of needing high-cost care and to design specific features of a case management
intervention to reduce these costs. Case management services included assessment,
service coordination, condition-specific self-care education, and informal caregivers. The
evaluation of the projects found limited benefits from the interventions, and, in particular,
they did not reduce Medicare spending (although the design provided no incentive for
spending reductions) (Schore, Brown, and Cheh 1999).
The Community Nursing Organization (CNO) demonstration tested a capitated nursemanager system of care to coordinate care and provide a more flexible array of services,
including prevention, that are not normally available in Medicare. Program evaluations
found that overall, the treatment and control groups did not differ in health status or
service use, but the treatment group generated increased total expenditures, associated
with the costs of the intervention (Frakt, Pizer, and Schmitz 2003). A Medicare
Alzheimer’s disease demonstration involving a nurse or social worker case manager and
a limited Medicare community service benefit concluded that there is no evidence that
the high-resource program produced more savings relative to usual fee-for-service
Medicare (Newcomer et al. 1999).
DISEASE MANAGEMENT
“Disease management” is an approach that private health plans have pioneered. Thirdparty disease management vendors typically focus on identifying chronically ill patients
and communicating frequently with them (usually by phone) to help them self-manage
their conditions and avert more serious problems that could result in unnecessary
interventions and avoidable hospitalizations. Disease management companies and
sophisticated health plans that offer disease management in house use predictive
modeling, decision support software, and remote monitoring devices to complement the
core nurse-patient communication approach. Often targeting different interventions to
various subsets of the chronically ill population, these organizations primarily serve a
surveillance function—to ensure that the patient’s treatment plan is being adhered to and
to detect any deterioration in clinical status. Some programs also engage patients in selfmanagement education by phone.
A recent review of 44 studies of disease management programs that met methodological
criteria concluded that there was a positive return on investment from programs directed
at congestive heart failure and patients with multiple conditions, and mixed results for
asthma, diabetes, and depression (Goetzel et al. 2005). However, in addition to
limitations in this analysis identified by the authors, this review also combined very
different kinds of interventions, including interventions at the point of service delivery;
community-based interventions; and telephonic disease management conducted by thirdparty vendors, thereby obscuring the impact of particular approaches.
Other recent literature reviews have found insufficient evidence that predominantly thirdparty administered disease management reduces health-related costs, even for patients
whose medical needs are less complex than those of Medicare enrollees (CBO 2004c;
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
Ofman et al. 2004). The CBO found a number of problems with the existing research on
the impact of disease management programs. Most of the studies did not account for all
costs, falling short on capturing administrative costs of the intervention itself and health
care spending other than hospital and emergency department spending. Further, studies
usually failed to randomize individuals to the intervention group and to a reference group,
thus introducing a significant bias into any analysis. Perhaps the biggest methodological
problem was comparing costs of a disease management program with benchmark costs
for the same population in the prior year. Selecting patients based on high spending in a
year and then seeing a reduction in costs in subsequent years might simply reflect a
statistical phenomenon known as regression to the mean. For example, the CBO pointed
out that only 44 percent of the top quartile of spenders in Medicare’s traditional program
in 1997 remained in the top quartile in 1998.
Researchers at the Permanente Medical Group in Northern California evaluated the cost
impact of their extensive portfolio of disease management programs. Examining quality
indicators, utilization, and costs for 1996–2002 for adults with four chronic conditions,
researchers found evidence of substantial quality improvement but not cost savings. They
concluded that the causal pathway—from improved care to reduced morbidity to cost
savings—did not produce sufficient savings to offset the rising costs of improved care
(Fireman, Bartlett, and Selby 2004).
As often invoked, “the absence of evidence is not proof of absence” of effect.
Accordingly, the MMA-authorized Medicare Health Support Program (formerly labeled
Voluntary Chronic Care Improvement Program) is piloting disease management for
Medicare beneficiaries with severe CHF and diabetes in a research design that includes
beneficiary randomization in an “intent to treat” design. As described earlier, this thirdparty disease management approach is widely used by private plans, which either
perform it directly or contract with specialized vendors.
The initial evaluation of the pilot’s performance found that the negotiated Medicare
Health Support Organization (MHSO) monthly fees are a much higher percentage of the
comparison group’s per-beneficiary per-month costs than the percentage savings on
payments through the first six months of the pilot period. In short, vendor fees paid to
date far exceed any savings produced (McCall, Cromwell, and Bernard 2007). One of the
apparent problems was that the MHSOs were relatively unsuccessful recruiting either
dual-eligible or the more costly beneficiaries to participate in the program, thereby
forgoing the opportunity to change care patterns for those with presumably the largest
potential for cost reduction (McCall, Cromwell, and Bernard 2007). Based on their own
disappointing results, two of the eight contracted MHSOs have terminated their
involvement in the pilot program. Whether the pilot will be continued beyond the
programmed end dates remains uncertain.
The Medicare Coordinated Care Demonstration, authorized by the 1997 BBA, tests
whether case management and disease management programs can lower costs and
improve outcomes and well-being in the traditional Medicare program. In January 2002,
CMS selected 15 demonstration programs in a competitive awards process. Each program
began enrolling patients in 2002 and was authorized to operate for four years, with
randomization on eligible beneficiaries into treatment and control groups (Brown et al.
2007). In return for providing the care coordination intervention described in the
41
Cost Containment in Medicare: A Review of What Works and What Doesn’t
approved protocol, each program receives a negotiated monthly payment for each
beneficiary who chooses to enroll and is randomized to the treatment group.
The participating organizations include five commercial disease management vendors,
three hospitals, three academic health centers, an integrated delivery system, a hospice, a
long-term care facility, and a retirement community—representing a variety of
interventions spanning the chronic care management continuum. The program evaluation
of the first two years of the demonstration found in brief that patients and physicians
were generally very satisfied with the program, but few programs had statistically
detectable effects on patients’ behavior or use of Medicare services. Although a few
programs reduced hospitalization rates and medical care costs, others saw significant
increases in hospital rates and costs. Because the direct costs of program administration
were significant, even the few programs that successfully reduced medical care spending
did not save the program money (Brown et al. 2007).
INTEGRATED CARE MODELS
Although new models of chronic care management have achieved some success, the
approaches used by private plans and group practices have focused on a single disease,
single site, single transition, or single provider. Rarely have more than two of these
innovations been integrated into comprehensive, coordinated systems of care. Moreover,
these models commonly operate independently rather than in conjunction with primary
care, functioning either on a referral basis (e.g., geriatric evaluation and management) or
in parallel with primary care (e.g., disease management, case management) rather than
integrated within provider practice (Wolff and Boult 2005).
However, such integrated programs have been targeted to Medicare and Medicaid dualeligible beneficiaries, often supported by home- and community-based service (HCBS)
programs that involved managing a mix of medical and social services under the
incentives of capitation. Beginning with the first Medicaid HCBS programs in the 1970s
(e.g., New York’s Nursing Home Without Walls Program) and the National Channeling
Demonstration, and in the 1980s (e.g., the VNS CHOICE program in New York), federal
and state governments have promoted efforts to de-institutionalize the delivery of health
care to dual-eligible beneficiaries. These types of HCBS programs, however, did not
demonstrate significant cost savings, even though their effects on patient clinical
outcomes were often positive (Doty 2002; Feldman and Kane 2003; Kemper,
Applebaum, and Harrigan 1987; Weissert, Cready, and Pawelak 1988).
Most of these programs functioned within the fee-for-service payment system. Roughly
half provided a broad range of home services, including adult day care. Most purported to
target seniors at risk of nursing home admission. The meta-analyses examined the extent
to which the community-based projects were able to reduce both nursing home and
hospital use and to meet their stated goals of achieving overall cost savings (Dowd et al.
1999). Although some demonstrations reduced hospital and nursing home use, only 7
showed cost savings, while 12 showed cost increases (Weissert, Cready, and Pawelak
1988). Only 4 of the 19 HCBS programs subject to cost analysis saved more than $1,000
per capita annually (in 1988 dollars). Twelve were more expensive than fee-for-service
alternatives, with a median loss of about $2,400 per capita per year. In a review of five
additional programs, Weissert and Hedrick (1994) concluded that integrated, communitybased case management programs have little or no effect on survival, functional status, or
use of nursing homes or hospitals. A subsequent meta-analysis exploring the impact of
42
Cost Containment in Medicare: A Review of What Works and What Doesn’t
home care on hospital use found a reduction in hospital costs from approximately $2,000
to $6,300 per patient per year but did not attempt to calculate overall expenditure savings
(Hughes et al. 1997).
Subsequently, new demonstrations were built on a payment base of capitation—social
health maintenance organizations (S/HMOs), On Lok/PACE, the Arizona Long-Term
Care System program (ALTCS), and Evercare and have been subject to comprehensive
reviews, with mixed findings. Most capitated programs that serve seniors have reduced
hospitalization but have not consistently reduced the use of nursing homes and other
long-term care service, even as they showed some benefit on quality and patient
experience with care (Wiener and Skaggs 1995). Researchers concluded that this
extensive body of research suggests that HCBS and capitated managed care programs
targeting the frail elderly have seldom saved money, despite evidence that some
interventions may reduce nursing home or hospital use. Instead, there have been
offsetting cost increases from added layers of care management and enriched packages of
home and community services (Chatterji et al. 1998).
Nevertheless, because of anecdotal reports of the success of the model, further analysis
was performed on the Program of All-Inclusive Care for the Elderly (PACE). PACE sites
serve a clientele of nursing-home eligible impaired and frail elderly, provide
comprehensive medical and social services under management of an interdisciplinary
team, include an adult day health center that provides a social and medical focus for
services rendered, and operate at full financial risk for the dually eligible, under fixed
Medicaid and Medicare capitation rates.
Full project evaluations published in 1998 concluded that PACE enrollees had much
lower rates of nursing home use and inpatient hospitalization than comparison group
members and higher use of ambulatory services (Chatterji et al. 1998). PACE programs
in their initial year of operation experienced about the same costs as traditional Medicaid
and Medicare fee for service, while producing improved health status and patient
satisfaction (White, Abel, and Kidder 2000).
The early success of the PACE demonstration led to its designation as a permanent
Medicare program in 1997. But growth in the number of programs and enrollment has
lagged. As of November 2005, there were only 34 PACE sites nationwide, enrolling
about 11,000 individuals (Schwartz et al. 2007). Interviews and surveys of senior
management in PACE programs found numerous barriers to PACE expansion, including
competition, PACE model characteristics, poor understanding of the program among
potential referral sources, and a lack of financing (Gross et al. 2004). As with PACE,
S/HMOs aimed to integrate acute, chronic, long-term care and social services.
Unfortunately, evaluation showed that S/HMO I programs, in place since 1985, tended
not to truly integrate functional status and clinical data in the management of plan
members, experienced difficulty in reaching enrollment targets, and did not achieve the
reductions in hospital and nursing home costs expected.
Indeed, S/HMO plans received adjusted capitation rates from Medicare that were 15 to 20
percent higher than even the excessive payments that standard Medicare risk plans were
receiving (USDHHS 2001). The second generation of demonstration (S/HMO II) was
designed to address perceived weaknesses of the initial model, in particular to integrate
care at earlier stages of disability by incorporating geriatric practices into the plans
(MedPAC 2003b). However, although six plans were approved to participate, only one
43
Cost Containment in Medicare: A Review of What Works and What Doesn’t
plan became operational. CMS has performed two evaluations of S/HMO I plans and the
single S/HMO II plan—in 2001 and 2003—and found very limited program benefits on
issues including care coordination, service use, health and functional status, and care
quality. It recommended that all existing S/HMOs be converted to standard Medicare
Advantage plans (USDHHS 2001, 2003).
Finally, Medicare has sponsored Evercare, a new approach to providing medical services
to long-stay nursing home patients, by offering a capitated package of Medicare-covered
services with more intensive primary care provided by nurse practitioners to supplement,
not supplant, the medical care provided by physicians (Kane et al. 2002). The model
permitted the nursing homes to be paid extra to handle the patients who otherwise would
have been hospitalized. The evaluation of this program concluded that Evercare met its
objectives of reducing hospital admissions while providing high-quality, coordinated care
to the nursing home resident, with greater patient and family satisfaction with care, such
as being treated with more respect than control groups. The use of active primary care by
nurse practitioners reduced the rate of untoward clinical events and changed the way such
events were managed, allowing intensive nursing home care to replace hospital transfer
in some cases.
Overall, however, the evaluation showed that the costs of the program to Medicare were
substantially higher than what such care would have cost in the regular, fee-for-service
program (Kane et al. 2002), primarily because under the capitation payment method used,
Medicare paid the Evercare sites more than it would have if it were continuing to pay
under fee-for-service payment rates. The Evercare demonstration results illustrate the
difficulty of distinguishing the potential of programs to reduce costs from the ability of
the Medicare program to capture the resultant savings. Even though the programs were
able to reduce costs, largely by substituting nursing home care for hospital stays, under
generous capitation, Medicare was not able to capture the efficiencies. The same issue
appears more dramatically in the assessment of Medicare Advantage to follow.
Despite the mixed record of the capitated, integrated care models, building upon the logic
that underlay the formation of these kinds of integrated care programs targeting the frail
elderly, Congress greatly expanded this approach for caring for “special needs”
beneficiaries. The MMA authorizes Medicare to contract with special needs plans (SNPs)
for three types of beneficiaries: dual eligibles, institutionalized beneficiaries, and patients
with severe chronic conditions. SNPs may limit their enrollment to their targeted special
needs population or enroll a broader population while providing targeted care to the special
needs population. Most have chosen to limit their enrollment to the targeted population.
Although some organizations with experience partnering with Medicaid and serving special
needs populations entered the SNP program, most were Medicare Advantage organizations
with little or no experience serving these populations (MedPAC 2006c).
In 2004, there were just 11 SNPs. By 2006, there were 276 SNPs, and in early 2007, 476
SNPs had been approved to operate (MedPAC 2007a). Most SNPs (67 percent) are for
dual eligibles, with the rest targeting beneficiaries residing in institutions and
beneficiaries with particular chronic conditions (MedPAC 2007a). As of March 2007,
there were 843,000 SNP enrollees (MedPAC 2007a), reflecting increases of more than
50,000 per month over the past year (Peterson and Gold 2006). Thus, in one month SNP
plans added far more enrollees than exist in the entire PACE program nationwide. Yet
SNPs are paid like regular MA plans, including the same risk-adjustment method. Thus,
44
Cost Containment in Medicare: A Review of What Works and What Doesn’t
the overpayments available to other MA plans are available to SNPs as well, perhaps
explaining the rapid entry of SNPs into the Medicare market.
CONCLUSION
The logic of developing supplemental programs targeted to frail beneficiaries and those
with multiple chronic illnesses remains compelling, not only to improve quality of care
but also to find program savings attributable to Medicare beneficiaries with the highest
per capita spending. Approaches used by private plans have offered the promise of
program savings from disease management and case management, but even here there is
less-than-robust evidence that widely prevalent approaches relying on third-party vendors
actually produce substantial savings.
Because Medicare, in particular, has a large share of beneficiaries with multiple chronic
conditions and dual-eligible beneficiaries with disabilities and limitations in ADLs, the
program has supported many demonstrations and pilots over the years to try to improve
care and restrain spending. Unfortunately, the logic of enhanced focus on the needs of
high-cost beneficiaries has not yet produced replicable programs that can reliably
constrain cost increases for this high-cost population. A variety of approaches and
programs tested over nearly three decades have been disappointing: Although to some
extent the capitated approaches have reduced spending, Medicare has not been able to
reap the savings.
Most of these programs have not attempted to alter directly the provision of care provided
in primary and principal physician practices, preferring to bypass the core patientphysician relationships with supplemental programs whose additional administrative
costs become part of the cost-effectiveness calculation. There is growing perception that
primary care physicians and their practice staffs may have to be part of any broad-based
attempt to reorient the care provided to beneficiaries with chronic conditions—that is,
most of the Medicare population. Popularized by advocates as the “patient-centered
medical home,” which would be supported with new payment approaches in addition to
traditional fee for service, this attempt to actually redesign how primary care practices
deliver care awaits broad-based testing.
PRIVATE PLAN CONTRACTING
Since Medicare began, the legal authority has existed for Medicare to contract with
private plans using payment methodologies other than fee-for-service reimbursement.
Prior to the mid-1980s, most Medicare managed care payment was retrospective. Plans
were paid on the basis of their costs to provide Medicare benefits (Glied 2000; Zarabozo
and LeMasurier 1996). In 1982, encouraged by what many in Congress saw in the
commercial market as the greater efficiencies of health maintenance organizations
(HMOs) compared with fee-for-service, Congress authorized a risk-contracting program
under the Tax Equity and Fiscal Responsibility Act (TEFRA), providing for a system that
would capitalize on such efficiencies by paying HMOs rates 5 percent below the cost of
care under traditional Medicare. Any savings remaining between Medicare’s payment
and the plan’s cost of furnishing Medicare benefits would be shared between the HMO
and its Medicare enrollees.
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Cost Containment in Medicare: A Review of What Works and What Doesn’t
Achieving savings through contracting with HMOs and private plans more generally has
endured as an overall objective of Medicare and its policymakers (Rossiter, Nelson, and
Adamache 1988). Just as enduring, however, is the evidence that managed care
contracting has cost rather than saved money for the Medicare program, and thus has
failed as a cost containment strategy. Looking forward, significant changes to the way
Medicare pays private plans would be needed to produce program savings.
Before we review the evidence from the literature, some caveats are in order. First, the
rules of the game for Medicare private plan contracting (most critically the payment and
risk adjustment methodologies) have changed repeatedly, complicating generalizations.
Second, for most of the program’s history, HMOs were basically the only type of private
insurance plan that contracted with Medicare. Preferred provider organizations (PPOs)
and, more important, private fee-for-service (FFS) plans did not become major players
until the late 1990s. (In August 2008, the private fee-for-service plans accounted for
about 22.5 percent of all Medicare Advantage enrollees [Peterson, S. and M. Gold
2008]). Most of the literature, however, reflects the earlier periods when HMOs
dominated and managed care more generally was the focus. Third, because the empirical
studies are time bound, their conclusions apply only to Medicare managed care and the
traditional program to which it was compared for that time. And researchers have adopted
no consistent set of metrics to measure the effects of managed care (Glied 2000).
Fourth and related is the fact that the nature of managed care itself has changed,
incorporating different combinations of mechanisms for cost and quality controls.
Closed-panel HMOs with tight constraints on utilization achieved through gatekeeper,
prior authorization, and other strategies have largely given way to looser network plans
that rely primarily for any savings on negotiated discounts with selected providers. But
despite their different approaches to and potential effectiveness at controlling costs,
studies have often combined HMOs of various types with PPOs. Finally, many studies
have not sufficiently accounted for the effects of favorable risk selection when comparing
Medicare managed care and other private plans with the traditional program.
DOES PRIVATE PLAN CONTRACTING SAVE MEDICARE MONEY?
Government audits and most researchers have concluded to the contrary. In general,
Medicare has paid private plans more than their underlying costs, paid more than it would
have paid for beneficiaries if they remained in traditional Medicare, and failed to reap
any savings achievable by private plans as a result of any efficiency in care delivery
(management of care and provider discounts). These findings have persisted throughout
the history of Medicare private plan contracting, from the pre-TEFRA risk-based
demonstrations through TEFRA (when payments to plans were set at 95 percent of the
costs of traditional Medicare) to today, when plan payments are benchmarked to amounts
that remain linked to traditional program costs in a plan’s locality or region (MedPAC
2007e). And these findings have resulted from studies using different approaches to
assess the effects of Medicare payment methodology.
One approach has been to compare the experience of traditional FFS program
beneficiaries with those in Medicare HMOs, using Medicare claims or, more recently,
self-reported information about beneficiaries’ health status. Beneficiaries enrolled in the
early risk-based HMOs were found to use a lower level of services than similar
beneficiaries in FFS programs. This meant that the program was paying the private plans
more than they needed to cover the costs of providing Medicare benefits (Rossiter,
46
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Nelson, and Adamache 1988). The experience with the TEFRA HMOs was similar.
HMO enrollees in the same risk category as FFS beneficiaries used a lower level of Part
A services and about the same level of Part B services (CBO 1994, 1995; Glied 2000;
Luft 1981; Miller and Luft, 1994). Some of the savings in reduced utilization experienced
by the Medicare HMOs was offset by their higher administrative costs, including profit or
surplus charges (CBO 1997b). Researchers who examined the relative experience of
enrollees with commercial indemnity insurance (i.e., FFS coverage) compared with those
in HMOs during the same period also found that HMO enrollees had the same or lower
utilization of hospital services and lower total costs relative to those with indemnity
insurance (Miller and Luft 1993).
Some studies found that Medicare managed care produced “spillover savings” in
locations where HMOs had sufficient market penetration to pressure FFS providers to
lower their costs through changes in pricing or practice patterns (Baker 1995, 1999). But
evidence for substantial spillover savings (in both the commercial and Medicare managed
care sectors) was weak and inconsistent (Glied 2000; Langwell and Esslinger 1997).
The most comprehensive study of Medicare’s early experience with risk-contract HMOs,
conducted for HCFA, found that Medicare was spending 5.7 percent more for HMO
enrollees than these beneficiaries would have cost had they remained in traditional
Medicare (Brown and Hill1993). A series of reviews by GAO (GAO 1994a, 1995, 1997c,
1999b) and the Physician Payment Review Commission (PPRC 1996b, 1997) followed,
reaching similar conclusions: Medicare’s payments to private plans exceeded what
Medicare’s costs would be otherwise, even with payment at 95 percent of the cost of care
under traditional Medicare. A subsequent study, based on data for nonrural counties from
1990 to 1994, found that Medicare HMO enrollees were 20 percent to 30 percent less
expensive than the average cost of FFS Medicare enrollees, with the differences
associated with Part A expenditures (Batata 2004).
Another approach to assessing Medicare’s payments to private plans has been to compare
those payments to the plans’ adjusted community rates (ACRs), which plans used to
submit to the government prior to payment methodology changes implemented by the
2003 MMA. Medicare’s payment to a private plan is determined according to the
methodology established by statute. The ACR is basically the plan’s estimate of the funds
needed to cover the costs (both medical and administrative) of providing the Medicare
package of covered services to any enrolled Medicare beneficiary. Although the ACR
may not always represent the most accurate measure of plan costs, it is the best measure
available to investigators (OIG 1998).
Despite successive statutory modifications to the payment methodology, plan payments,
on average, exceeded plan costs for all years for which ACR data appear to be available.
(See table on page 48.) For each of the plan contract years 1992 through 1996, the ACRs
showed projected plan costs to average 80 percent to 88 percent of what Medicare would
pay plans to furnish the basic benefit package to their enrollees (CBO 1997b). A
subsequent analysis of ACR submissions for 2000 and 2001 found that Medicare
continued to pay plans considerably more to furnish basic Medicare services than plan
costs (75.5 percent and 81.5 percent, respectively) (Merlis 2001). CBO later looked at the
ACR filings for 2002 and found that projected plan costs for that year were on average 87
percent of the Medicare+Choice payment rates (CBO 2004b). It is also the case that for
all of the years of ACRs reported above, projected plan costs were, on average, less than
47
Cost Containment in Medicare: A Review of What Works and What Doesn’t
traditional program costs for comparable beneficiaries (i.e., the AAPCCs), and in some
years, lower by significant amounts. It must be emphasized that plan sponsors tended to
enter areas with relatively high payments, thus inflating the overall difference between
Medicare payment rates and plan costs.
Projected Share of Medicare Payment to Managed Care
Plans Spent on Basic Medicare Services,
1992–1996, 2000–2002
Plan contract
year
Projected share of Medicare payment spent
on basic Medicare Services
1992
1993
1994
1995
1996
2000
2001
(pre-Benefits
Improvement and
Protection Act of
2000)
2002
87.5%
88.4%
86.2%
84.3%
80.0%
75.5%
81.5%
87.0%
Sources: CBO (1997b, table 5; 2004b, table A-1). For 2000–2001, Merlis (2001),
analysis of ACRs, table 16.
Payments in excess of traditional Medicare costs have continued through 2007. For 2004,
MedPAC estimated that plan payments would have averaged 103 percent of traditional
program spending pre-MMA. With the MMA payment methodology modifications,
excess payments in 2004 were expected to average 107 percent for demographically
comparable populations (MedPAC 2004a). In 2005, the estimate increased to 108 percent
of FFS Medicare (MedPAC 2006c). While these “excess” payments helped to increase
the availability of managed care plans to Medicare beneficiaries, they also represented
significant yearly “losses” to the program (Berenson 2004; Biles et al. 2006b).
As noted, because of the changes to plan payments established by the MMA of 2003,
ACRs were no longer used as of 2006. Medicare payments are now based on the
difference between a plan’s bid and the relevant benchmark for the county, if a local plan,
or the region, if a regional PPO. Under the MMA payment changes, benchmarks are at
least 100 percent of FFS Medicare expenditures, and for many counties, they are
considerably higher. For 2006, MedPAC found that the enrollment weighted benchmarks
were at 116 percent of FFS expenditure levels across all plans; that 98 percent of the local
plan bids came in below their respective benchmarks (meaning that almost all plans
electing to bid estimated that their costs for providing basic benefits would fall below
benchmark amounts); and that Medicare payments for MA plan enrollees were on
average 112 percent of FFS Medicare expenditures, adjusted for both demographic and
health status in 2006 (MedPAC 2006a, 2006d, 2007c) and projected to be 113 percent in
2008. Average excess payments vary with plan type. In 2006, they ranged from 110
percent of traditional Medicare costs for the local HMO coordinated care plans to 119
percent for the private FFS plans (MedPAC 2007e). By 2008, the range had narrowed
from 112 percent for HMO coordinated care plans and regional PPOs to 117 percent for
private FFS and 119 percent for local PPOs (MedPAC 2008b).
48
Cost Containment in Medicare: A Review of What Works and What Doesn’t
For 2007, a comparison of MA plan bids with the benchmarks led CBO to conclude that
Medicare is continuing to pay, on average, more than it would pay if those enrollees were
in traditional Medicare. Benchmarks are on average 17 percent higher than projected per
capita FFS expenditures nationwide, and Medicare’s payments to plans average 112
percent of FFS Medicare. CMS has taken issue with MedPAC’s and CBO’s separate
calculations reporting that there is only a 2.8 percent difference between MA plan
payments and FFS Medicare (CMS 2007b). Insufficient information is provided,
however, to support their conclusions.
As CBO notes, it is important to look at geographic differences in how MA plan
payments compare with FFS Medicare experience. “In areas with the highest FFS
spending, health plans’ bids for 2007 are about 9 percent below FFS spending;
benchmark rates in those areas average about 4 percent above FFS costs. By contrast, in
the lowest-cost FFS areas, health plan bids are about 16 percent above FFS spending, and
benchmark rates are about 26 percent above FFS costs” (CBO 2007a).
Even with better risk adjustment for the relative differences in utilization of MA versus
traditional program enrollees (as discussed next), the payment methodology, with
benchmarks fixed at 100 percent FFS or higher, is unlikely to capture savings that might
result from any greater efficiencies of managed care (CBO 2007a). Medicare “captures”
only 25 percent of any savings that results from a plan bid coming in below its relevant
benchmark. The other 75 percent is paid to the plan to provide extra benefits to its
enrollees. (Very few plans bid above the benchmark. In such cases, the entire difference
is charged to the enrollees.) Because benchmarks are, on average, 17 percent higher than
projected per capita FFS expenditures nationwide, CBO estimates that “a plan in an area
with the ‘average’ benchmark (relative to FFS costs) would have to bid an amount 51
percent below FFS costs in order for the government’s payments to that plan to equal
average FFS costs” (CBO 2007c).
FAVORABLE SELECTION
If the ACRs or bids for many plans are below FFS costs for their areas, does that mean
these plans are more efficient than traditional Medicare? Most researchers have
concluded that this is not the case. Historically, plans in general have not been more
efficient but instead have benefited from favorable selection. The problem for Medicare
is that for a long time its payment system failed to adequately adjust for such selection,
and, in the view of some, still may not be doing so.
In the early years of Medicare private plan contracting, program officials assumed that
favorable selection would occur and that contracting with HMOs would initially cost
more than providing the same benefits through traditional Medicare. But they also
thought that the selection bias would diminish either as HMO enrollment increased to be
more representative of the Medicare population as a whole or because earlier HMO
enrollees would become more expensive as they aged in place (Rossiter, Friedlob, and
Langwell 1985). By almost all independent accounts, this has not occurred.
Compared with traditional program beneficiaries in the same risk categories, studies of
the first risk demonstration projects, the TEFRA plans, and the Medicare+Choice plans
found that (1) beneficiaries in Medicare HMOs used fewer services before enrolling and
had lower mortality rates and lower imputed FFS costs while in the plans; and
(2) beneficiaries who disenrolled from the managed care plans had higher use and higher
49
Cost Containment in Medicare: A Review of What Works and What Doesn’t
mortality rates than either people who stayed in the plans or those in traditional Medicare
(Brown 1987; CBO 1997b; GAO 1997c, 1999a; Greenwald 2000; Greenwald, Levy, and
Ingber 2000; Hellinger 1995; Hellinger and Wong 2000; Brown and Hill 1993; PPRC
1996b; Riley 2000; Riley, Lubitz, and Rabey 1991; Riley Rabey, and Kasper 1989;
Rossiter, Nelson, and Adamache 1988). Consistent with these individual studies, reviews
of the overall literature produced similar conclusions (Glied 2000; Hellinger and Wong
2000; Langwell and Esslinger 1997; Newhouse 2002). Mello et al. (2003), however,
suggested that conflicting findings related to favorable selection by HMOs may be due to
differing methodological choices, including the choice of health status measure and
sample composition.
These studies date to a period when CMS attempted to control payments for biased
selection by adjusting them for basic demographic characteristics of plan enrollees (age
and sex), Medicaid enrollment, and institutional status. Although this “risk adjustment”
was designed to level the playing field so that health plans would compete on the basis of
efficiency and not their ability to attract healthier enrollees (Weissman et al. 2005), it
accounted for only about 1 percent of variation of expenditures among individuals, well
below the predictive ability thought necessary to discourage plans from “cherry picking”
the best risks (Greenwald, Levy, and Ingber 2000; Newhouse 2002). Inclusion of a better
indicator of beneficiary health status was thought to be needed.
Under the 1997 BBA, Congress required the secretary of Health and Human Services to
develop a health status risk adjustment method by 1999 and to implement it by 2000.
HCFA began to phase in the health status adjuster beginning in 2000. Health status was
measured first by inpatient diagnoses (PIP-DCGs). Eventually this version was replaced
by the CMS-HCC model, which incorporates inpatient and outpatient encounters with
demographic factors. This model, in effect today, improved the ability of the risk adjuster
to account for an increased (albeit still modest) amount of variation in individual health
care costs, and made it a more robust tool for predicting variation in spending for groups
of enrollees (Greenwald, Levy, and Ingber 2000). Nonetheless, according to MedPAC
(2005b), it over predicts the costliness of beneficiaries who are in good health and under
predicts for those who are in poor health. Accordingly, some analysts argue that while the
HCC model is an improvement over the past risk-adjustment methodology, it is still
inadequate to eliminate all of the financial incentive for plans to engage in favorable
selection (Buntin et al. 2004). Others believe that the HCC is adequate but may need fine
tuning (Pope et al. 2004).
To the extent that plans do not have confidence in the ability of the risk adjuster to fully
measure varying risk, they are likely to be wary of adverse selection and behave
accordingly. Other analyses suggest that plans continue to benefit from favorable
selection, although this may be changing. Murgolo (2002) found beneficiaries in
Medicare private plans to be disproportionately healthier than those in the traditional
program, as measured by self-reported health status. A more recent comparative analysis
of health and functional status of beneficiaries enrolled in private plans and those in
traditional Medicare found a narrowing of health differences between 1991 and 2004
(Riley and Zarabozo, 2006–07).
In 2003, CMS decided to forgo Medicare program savings that would have otherwise
accrued as a result of phasing in the health status risk adjuster and instead to redistribute
those savings to the plan payment rates (Berenson 2004). Medicare continues to lose
50
Cost Containment in Medicare: A Review of What Works and What Doesn’t
money as a result of this risk adjustment “budget neutrality policy,” although the policy is
being phased out under a provision of the Deficit Reduction Act (DRA) of 2005
(Berenson 2004; Weissman et al. 2005). Benchmarks for 2007 are still 3.9 percent higher
than they would be if the budget neutrality adjustment were not used (CMS 2006b).
More recent are concerns that rising risk scores reported by MA plans may indicate that
plans are not enrolling sicker beneficiaries so much as “upcoding” enrollee diagnoses to
maximize their risk scores and thus their risk-adjusted payments (CBO 2006b). CMS
could seek to correct this response by adjusting MA payments (CBO 2006b) under
authority given to it in the DRA. In its announcement of MA payment rates for 2008,
CMS indicated that while the risk scores for MA plans have increased more than those
for FFS enrollees, it is unable to attribute the difference to underlying coding pattern
differences; thus no coding intensity adjustment was made to MA payment for 2008
(CMS 2007a).
ADDITIONAL PAYMENT ISSUES
As reflected in the above discussion, CMS and Congress have made a number of
decisions that have resulted in raising plan payments above where they might otherwise
need to be to cover plan costs or to be equal to FFS Medicare expenditures on a perbeneficiary basis. Some of these changes were quite fundamental; others highly technical,
but still of some consequence. For example, the BBA shifted payment based on 95
percent of the AAPCC to the higher of a floor, minimum percentage increase, or blended
payment rates. Congress also built into the new rates a forecasting error that resulted in
excess payments of $1.3 billion in 1998 and more in successive years as enrollment
increased (Berenson 2004; GAO 1999a). In the MMA, Congress again modified the
payment rules for private plans, ensuring that county-based (“local plans”) are paid no
less than 100 percent of their county’s per capita traditional program spending (Berenson
2004). This decision has played a significant role in producing excess payments,
especially because beneficiary enrollment in MA plans has tended to be highest in those
counties with the highest benchmarks (CBO 2007a).
The MMA also made available $10 billion (2007–2013) for a regional PPO stabilization
fund (funds that have not been spent) along with some additional financial incentives.
Although these changes were intended to encourage private plans to enter previously
underserved areas, they also helped to make Medicare Advantage more expensive than
traditional Medicare (CBO 2007a).
EFFECTS ON BENEFICIARIES
Saving money for Medicare may not be the most important goal or result of Medicare
private plan contracting. A more compelling rationale—and the one that has
intermittently dominated the policy debate—may be its ability to deliver enhanced
benefits and lower out-of-pocket costs for enrollees. In those areas of the country where
Medicare’s plan payments have exceeded traditional program costs, plan enrollees have,
in effect, traded private plan efficiencies assumed to result from restricted provider
networks and utilization controls for extra benefits (especially outpatient prescription
drugs) and lower cost sharing. (In 2007, for example, enrollees received, on average,
additional benefits with a value of $86 per month [CMS 2007b]). These additional
benefits, often provided at no premium over and above the Part B premium (and
sometimes including a reduction in the Part B premium), have made Medicare private
51
Cost Containment in Medicare: A Review of What Works and What Doesn’t
plans attractive to many low-income beneficiaries who are ineligible for Medicaid
subsidies and do not have supplemental coverage from a former employer (Atherly and
Thorpe 2005; CMS 2007b; Gold 2003; Thorpe et al. 2002). However, the inequity of
payment effects that result in richer benefits for beneficiaries fortunate enough to live in
certain areas has long been of concern to many policymakers (Merlis 2001). Moreover,
some evidence suggests that beneficiaries who are sicker and use more services may
incur greater out-of-pocket costs as enrollees in MA plans than if they were in traditional
Medicare (Biles, Nicholas, and Guterman 2006).
Another consideration is whether beneficiaries receive better care and experience better
health outcomes under Medicare private plans than under FFS Medicare. In general, the
quality of care has not been found to be appreciably different overall, although important
differences have been demonstrated on some measures. Much of the early literature
focused on comparisons of measures of quality of care between HMOs and FFS health
care in the commercial market. An analysis of the findings from 15 peer-reviewed studies
published between 1993 and 1996 found an equal number of significantly better and
worse results for HMOs compared with FFS plans. In several instances, HMO enrollees
with chronic conditions experienced apparently worse quality of care (Glied 2000;
Langwell and Esslinger 1997; Miller 1993; Miller and Luft, 1997). More recently, a
comparison of beneficiaries’ ratings of satisfaction for MA and traditional Medicare
shows generally similar and stable satisfaction over time (MedPAC 2006b). Quality
comparisons are more problematic because of the lack of comparable quality measures
for the FFS program (CBO 2007a; MedPAC 2005a). One study of stroke patients found,
however, that FFS Medicare patients experienced better outcomes than comparable
patients in Medicare HMOs (Kramer, Kowalsky, et al. 2000). Another study of stroke
patients found no consistent differences in health outcomes, although the mix of services
varied (Smith et al. 2005).
COULD PRIVATE PLAN CONTRACTING SAVE MEDICARE MONEY?
Given the right program design, could private plan contracting achieve significant
savings for Medicare? Many have contended that moving entirely from administered
pricing to competitive bidding (i.e., sealed bids without reference to benchmarks) as the
basis for determining plan payments would be the best way to achieve savings. Efforts to
test competitive bidding have been initiated through demonstration projects. All have
been thwarted, however, by stakeholder opposition (Jones 2000). Others have suggested
more fundamental program restructuring, with approaches ranging from a pure voucher
program, whereby Medicare would be effectively privatized, to those in which private
plans play no or only a modest role (Dowd et al. 2005–06).
In 1989, CMS began a series of studies that led to four demonstration attempts in the
second half of the 1990s to test whether a market-based system of competitive bidding as
opposed to administered pricing would achieve program savings (Jones 2000). In 1996
and 1997, CMS launched demonstrations of competitive pricing in Baltimore and
Denver. In response to local opposition, Congress halted both projects before final
implementation, but not before CMS had conducted an initial round of plan bidding in
Denver. For Medicare’s benefit package, plan bids were 24 percent to 38 percent below
the prevailing payment (i.e., the AAPCC) (Dowd et al. 2005–2006), leading some
observers to conclude that a competitive pricing payment system in 1997 “could have
52
Cost Containment in Medicare: A Review of What Works and What Doesn’t
resulted in substantial savings to the federal government with no reduction in benefits”
(Feldman and Kane 2003).
The 1997 BBA authorized another effort at launching a demonstration of competitive
pricing. Called the Competitive Pricing Demonstration Program, it too was suspended by
Congress (permanently, it turned out) before beneficiaries were actually enrolled,
although site selection had occurred (Phoenix and Kansas City) and program details had
largely been worked out (Dowd, Coulam, and Feldman 2000). This “not in my backyard”
response by stakeholders and their political representatives presents formidable
challenges to area-specific, competitive pricing demonstrations and could prevent the
scheduled Comparative Cost Adjustment Program from occurring. This demonstration,
required by the MMA to operate for six years in up to six localities beginning in 2010, is
intended to test head-to-head competition between traditional Medicare and Medicare
Advantage plans (§241 of the MMA, 2003). More specifically, the competition will be
tested by making payments to private plans and beneficiary premiums for traditional
Medicare a function of MA plan premium bids.
Short of moving to a competitive pricing model, changes could be made to the current
MA program that would reduce excess plan payments. One option is to set the local and
regional benchmarks at 100 percent of traditional program costs and redirect Medicare’s
share of savings from bids below the benchmarks to a fund that would “redistribute the
savings back to MA plans based on quality measures” (MedPAC 2005b, MedPAC
2006c). Alternatively, the savings could be used to improve trust fund solvency or fund
other priorities. CBO has estimated that paying on average the same amount for a
beneficiary enrolled in MA plans as in FFS Medicare would result in $54 billion in
savings over five years and $149 billion over ten years (CBO 2007b). However,
beneficiaries in areas with low traditional program costs might find the number of plan
options greatly reduced, an effect that makes such an approach politically problematic.
Still another option would be to pay plans based on plan costs in an area, regardless of
underlying FFS Medicare costs, since the local FFS program costs bear a poor
relationship to actual plan costs (Berenson 2004; CBO 2004b). Then the challenge is
determining the appropriate basis for such payments. Various approaches are possible,
including evaluating the variation in local plan costs to determine a budget neutral blend
of national and local rates to determine benchmarks (Berenson 2008), holding successive
rounds of negotiation with CMS on plan bids or linking payments more closely to
appropriate levels of spending as informed by clinical evidence.
A more sweeping change would be to move to a market-based system where traditional
Medicare is treated as simply another competing health plan. The most radical form of this
approach is a defined contribution model, whereby the government would give
beneficiaries a fixed dollar amount to buy coverage either from traditional Medicare or
from private plans. A less radical version, known as premium support, would pay a
predetermined amount toward beneficiaries’ premiums for either traditional Medicare or a
private plan, which would compete head-to-head for enrollment. The effects of premium
support on beneficiaries and the program as a whole depend on design decisions relating to
the benefit package(s), types of eligible plans and marketing rules, definition of the market
area in which the competition is to occur, the method for determining the government’s
contribution to the plan payment (and the residual beneficiary premium), and the flexibility
53
Cost Containment in Medicare: A Review of What Works and What Doesn’t
given to traditional Medicare to manage costs effectively (e.g., restricted provider networks
and value-based purchasing) (CBO 2006b; Fuchs and Potetz 2000).
One critical view of premium support is that, in the absence of a better risk adjustment
methodology than currently exists, the premium for FFS Medicare would likely spiral
ever higher to cover the higher costs of its relatively sicker enrollees, jeopardizing the
program’s long-term sustainability (Competitive Pricing Advisory Committee [CPAC]
2001; CBO 2006b). A more optimistic perspective is that the competition under premium
support could be structured so that plans—private and traditional Medicare—would bid
on the same “entitlement” benefit. The government would then pay on the basis of some
metric, such as a risk-adjusted, enrollment-weighted average bid amount. Beneficiaries
electing plans above that amount would pay the difference in an out-of-pocket premium.
Traditional Medicare could be paid an additional “subsidy” to cover the costs not borne
by private plans, such as graduate medical education and disproportionate share hospital
payments (Dowd et al. 2005–2006).
Whether such an approach could work without adverse effects on beneficiaries
(especially in the traditional program) in terms of access, quality, and out-of-pocket
liabilities is much debated (CBO 2006b). Some argue that as traditional Medicare
becomes a value-based purchaser of services though pay for performance and is better
able to manage care as a result of better data systems and chronic care management
programs, it may be better positioned to compete with private plans. Its competitive
position would be further enhanced by offering additional benefits and altered costsharing requirements, as discussed in the section on benefit design. Others argue that
traditional Medicare already enjoys an unfair competitive edge as a result of its ability to
control provider payments, impose regulations on private plans, and so on. For example,
PPOs typically pay providers more than the payment rates established by the traditional
program (Pizer, Feldman, and Frakt 2005). More generally, MedPAC (2005a) has tracked
a trend of higher payments by private plans to providers in the aggregate than by
traditional Medicare.
Concurrently, should the MA program become more dominated by PPOs and private FFS
plans, its ability to constrain costs will increasingly be linked not to care management but
to provider discounts (Dowd et al. 2005–2006). The effects of such a possible
convergence between traditional Medicare and Medicare Advantage have yet to be fully
explored in the literature.
CONCLUSION
As currently structured, Medicare Advantage and its predecessors have not achieved cost
containment for Medicare. Instead, they have consistently and increasingly paid private
plans more than what the same beneficiaries would cost the traditional program. If private
plans are to become a cost-effective option for Medicare beneficiaries in general and the
program as a whole, the findings from the literature suggest that a different approach to
payment policy is needed. As CBO and MedPAC have argued, the greatest potential for
private plans to deliver efficiencies is in high-cost FFS areas of the country. In such
areas, some private plans (most likely the HMOs that comprise a declining share of the
Medicare market) might be able to achieve greater efficiencies than traditional Medicare
through lower utilization or lower payments to providers.
54
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Such savings would, however, have to offset the higher administrative costs incurred by
private plans, now averaging about 11 percent compared with traditional Medicare’s 2
percent (CBO 2006a). And sufficient political support for such a change is problematic,
especially since many plans are likely to respond by withdrawing from the program, with
the associated disruptions for beneficiaries. More fundamental changes in payment
methodology, such as envisioned under premium support proposals, raise a different and
more complex set of issues that would need full examination.
FRAUD AND ABUSE
There is a broad public perception that Medicare fraud is widespread and contributes to
the rapid escalation of program expenditures. A public opinion survey commissioned by
AARP in 1999 on health care fraud found that 83 percent of respondents believed fraud is
either “extremely widespread or somewhat widespread.” Further, 72 percent of
respondents believed that the Hospital Insurance Trust Fund would not be facing
insolvency if fraud and abuse were eliminated (Smith 1998).
Concern about Medicare’s vulnerability to fraud and abuse has led to a succession of
statutory and administrative enforcement initiatives designed to help prevent, detect, and
mitigate fraud. While stepped-up efforts by CMS, the OIG of the Department of Health
and Human Services (DHHS), and the Department of Justice (DOJ) have produced
significant, measurable results, perhaps more important has been the “sentinel effect” of
these activities on Medicare providers. Although more aggressive policing of Medicare
providers is not the key to sustained, long-term control of rising expenditures, close
observers of these efforts whom we interviewed believe it is a critical component of a
multifaceted strategy to moderate spending growth in Medicare.
Medicare contractors process more than 1 billion claims in the traditional FFS program.
Monthly capitation payments are also made to more than 700 contracting Medicare
Advantage and prescription drug plans. Most of these transactions are carried out
electronically with little review by CMS or its agents. Because of the scope of the
Medicare program, the complexity of its coverage and payment rules, and the need to
maximize the efficiency of the claims-processing system, there is ongoing tension
between ensuring prompt payment and controlling fraud and abuse.
LEGISLATIVE TOOLS
Legislation to address the problem of fraud and abuse was first enacted in 1978—the socalled “antikickback” law. This statute prohibits the payment or receipt of anything of value
to induce referrals of Medicare beneficiaries for covered services or to induce the purchase of
covered services. It was followed in 1986 by the adoption of amendments to the federal False
Claims Act (FCA), which dates back to the Civil War, making it a much more powerful tool
for the health care sector by greatly increasing the penalties for submitting false claims. With
these amendments, the number of health care-related false claims cases (qui tam) grew
rapidly (see figure 1). These “whistleblower” cases have resulted in very large settlements in
part because losses in court can result in treble damages.
55
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Figure 1. Qui Tam Cases Filed
350
300
250
200
150
100
50
0
1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Source: Mac Thomton personal communication.
In 1987, Congress passed legislation stiffening the penalties for fraud and abuse and
expanding the grounds for exclusion from program participation. In 1989 and 1993,
Congress adopted other provisions (“Stark I and II” laws) that bar physicians from having
a financial interest in entities providing certain services to which they refer Medicare
patients. Studies comparing the frequency and cost of services ordered by physicians who
directly provide services (self-referral) and those who refer to independent providers
show significantly higher use rates and costs for self-referring physicians. Two of these
studies (Hillman et al. 1990; Swedlow et al. 1992) focused on use rates of imaging
services for self-referrers and those who use independent providers. Findings from these
studies and a 1989 DHHS OIG report (OIG 1989) comparing the use of laboratory
services by physicians with and without an ownership interest in independent labs helped
provide the basis for the Stark self-referral legislation. However, studies such as these
cannot identify whether the use of particular services is inappropriate or whether a pattern
of inappropriate care constitutes fraud.
With the enactment of the Health Insurance Portability and Accountability Act (HIPAA)
in 1996, a more comprehensive Health Care Fraud and Abuse Control (HCFAC)
program—supporting OIG and DOJ activities and the CMS Medicare Integrity Program
(MIP)—was authorized and funded by an automatic annual allotment from the HI Trust
Fund. This legislation also strengthened the penalties for health care fraud by ratcheting
up sanctions for violating program requirements and enabled the OIG to expand staff and
maintain a presence in every state. The DOJ and the Federal Bureau of Investigation have
also significantly increased the number of personnel devoted to health care fraud
investigation and prosecution. HCFAC funds for fiscal year (FY) 2005 totaled $240
million. The CMS MIP now receives more than $800 million annually (still less than 1
percent of total Medicare outlays) from these HIPAA funds.
56
Cost Containment in Medicare: A Review of What Works and What Doesn’t
CLAIMS ERROR RATE
Since 1996, the OIG and CMS have conducted annual audits of Medicare-paid claims to
estimate the program payment error rate. These audits involve matching a statistically
valid sample of claims to associated medical records obtained from providers. A payment
error is recorded if the claim is for a noncovered service, improperly coded, not supported
by appropriate documentation, or found to be medically unnecessary. By applying this
error rate to Medicare outlays for a year, a dollar estimate of the cost of inappropriate,
although not necessarily fraudulent, payments is determined. An error rate of 14 percent
in the first year of the audits was cut in half the second year and has generally declined
further in subsequent years (OIG Reports, 1997–2002). However, CMS assumed
responsibility for these audits in 2003 and modified the criteria for payment errors,
thereby limiting comparisons with the previous OIG results.
Critics of these error rate projections point out that they likely underestimate significantly
the total errors because they do not usually identify fabricated medical records or verify
the actual delivery of services through patient interviews. Indeed, these limitations in the
annual error rate methodology could result in a failure to identify cases of intentional
fraud. For example, a study by Psaty et. Al (1999) extended the traditional error rate audit
approach by matching claims to both medical records and patient interviews. In a sample
of congestive heart failure cases, they found that 37.5 percent of diagnoses were
incorrectly reported. Based on these data, they estimated that inaccurate coding for this
diagnosis alone cost Medicare up to $933 million in 1993. Sparrow (2000), who believes
error rate estimates are a lower bound, speculated that losses to fraud could total from 10
to 40 percent of Medicare outlays. At current annual spending levels of $325 billion, this
would amount to $30 to $130 billion a year.
OTHER FRAUD INITIATIVES
Beginning in the mid-1990s, CMS launched Operation Restore Trust (ORT)—a targeted
initiative in five states—in cooperation with law enforcement agencies to aggressively
pursue suspected fraud and to assess the reasonableness of Medicare claims more
carefully. The then-administrator of CMS announced his intention “to exercise its longstanding authority to suspend payments to suppliers or providers when there is tangible
evidence of fraud” (Vladeck 1995). At about the same time, the OIG began to impose
corporate integrity agreements in lieu of exclusion from the program in civil fraud
settlement agreements. Voluntary corporate compliance programs are now in place in
most institutional providers that participate in Medicare, leading OIG officials to believe
that these programs have reduced fraudulent behavior. “Perhaps the best indication of the
sentinel effect is the explosion of interest in corporate compliance programs by health
care providers” (Thornton 1999). This sentinel effect is hard to quantify, but is believed
to account for much of the reduction in Medicare payment error rates and an unknown
amount of program fraud.
ORT also sought to enlist Medicare beneficiaries directly in the fight against fraud. A
toll-free consumer hotline was included on all Medicare benefit statements to encourage
beneficiaries to report suspicious billing patterns. In addition, grants provided by the
Administration on Aging (AOA) helped to support Senior Medicare Patrols (SMPs),
groups of retired professionals trained to educate and assist beneficiaries in identifying
and reporting fraud. However, these efforts were not without costs in terms of
relationships with the provider community—especially physicians, who thought that
57
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Medicare was undermining the patient-physician relationship by sowing seeds of
suspicion about the motives and behaviors of all physicians, not just the minority who
might be abusing the system.
Another component of early efforts to combat fraud has been the national Correct Coding
Initiative (CCI). Also launched in 1996, the CCI identifies pairs of physician services billing
codes that generally should not be billed and paid for separately when performed
concurrently. Medicare contractors incorporate these edits into the electronic programs used
for claims processing, resulting in automatic denials for one of the excluded codes. The
principal purpose of the CCI is to improve payment accuracy, but it may also deter fraudulent
billing. Its impact is currently limited to a relatively small percentage of claims dollars.
More recently, CMS has implemented a three-state demonstration program involving
recovery audit contractors (RACs). The primary purpose of the demonstration is to
determine the effectiveness of specialized contractors in identifying underpayments and
overpayments. While fraud detection is not the primary purpose of this initiative,
suspected fraud cases are required to be referred to the OIG for investigation. The
contractors are paid on a contingency basis related to the net amount of overpayment
collections. Recent legislation (P.L. 109-432) has permanently expanded this program to
all states.
Finally, CMS is moving to reduce the number of contractors responsible for reviewing
and paying Medicare claims and to contract with special program safeguard contractors
(PSCs) that focus solely on fraud prevention and detection. Currently, CMS has
contracted with 12 PSCs. By July 2008, CMS intends to have only 15 contractors for the
administration of Part A and B benefits plus 8 specialized DME and home health/hospice
contractors (CMS 2005c). Consolidation of the claims processing systems is expected to
bring greater consistency and facilitate the integration of data across the program. These
changes could allow fraud prevention and detection resources to be targeted more
effectively and efficiently.
It is impossible to determine precisely the magnitude of total program savings resulting
from all these efforts. Summarized below are the actual dollar recoveries reported by
OIG/DOJ and CMS and several published studies assessing the impact of these
initiatives.
HCFAC/MIP RESULTS
The most robust empirical findings related to the impact of fraud activities on Medicare
expenditures are found in HCFAC and MIP reports. These reports summarize the amount
of recoveries, settlements, and judgments obtained from Medicare providers and
suppliers. A recent oversight report from the GAO on the results of the CMS-MIP
estimated savings in 2005 of nearly $9 billion for just two activities—medical review and
secondary payer collections—or about 3 percent of total Medicare spending for the year
(GAO 2006b). The table below shows the amount of dollars returned to Medicare for
every MIP dollar spent for these two activities since 1997—one measure of the value of
these investments.
58
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Reported Return on Investment for Selected MIP Activities
Activity
Medical
Review
Secondary
Payer
1997
1998
1999
2000
2001
2002
2003
2004
2005
23.6
22.5
21.1
22.2
23.1
21.8
28.0
24.0
20.5
33.1
30.1
32.2
24.3
26.8
30.9
32.0
31.7
37.4
Source: GAO analysis of CMS data (GAO 2006b).
Note: Table shows dollars saved for every dollar spent.
DHHS/OIG and DOJ also report to Congress annually the amount of funds from fraudrelated recoveries returned to the HI Trust Fund. Since 1997, the combined efforts of
DHHS/OIG and DOJ have returned more than $8.9 billion to the Medicare Trust Funds
while spending just $1.5 billion (HCFAC annual reports, FY 1998–2005). Thus, for every
dollar spent, DHHS and DOJ report that nearly $6 is returned to Medicare, although these
recoveries represent less than 1 percent of total Medicare spending during this period. In
addition, CMS released a preliminary report of results in FY 2006 from the RAC
demonstration, identifying more than $300 million in improper payments in just three
states (CMS 2006i).
The OIG has released a large number of targeted studies identifying Medicare program
vulnerabilities to fraud and abuse and making recommendations for policy and
operational changes to CMS. While these studies are too numerous to review here, they
may be viewed on the OIG Web site (http://oig.hhs.gov/reports.html).
IMPACT OF THE FALSE CLAIMS ACT
FCA recoveries are aggregated in a series of reports prepared for Taxpayers Against
Fraud (TAF), a nonprofit organization that promotes use of the False Claims Act. The
most recent report (Meyer 2006) shows that Medicare recoveries from civil fraud cases
from 2000 through 2004 totaled approximately $7.3 billion, while expenses over the
same period were about $444 million (see figure 2).
Figure 2. Recoveries and Costs of FCA Cases, FY2000-2004
$8,000
$7,269
$7,000
($ in millions)
$6,000
$5,000
$4,000
$3,000
$2,000
$443.8
$1,000
$0
Recoveries
Costs
Source: Jack A. Meyer, Fighting Medicare Fraud: More Bang for the Federal Buck,
Taxpayers Against Fraud, July 2006.
Thus, for every dollar spent on the investigation and prosecution of these cases, TAF
estimates that the government received $15 in return. However, these recoveries are still less
than 1 percent of the more than $1.1 trillion Medicare outlays during this period. TAF also
59
Cost Containment in Medicare: A Review of What Works and What Doesn’t
reports that more than 400 cases were filed in 2005 (Meyer 2006). Because of increased
resources at the OIG and DOJ and the very large recoveries from settlements and
prosecutions, the FCA is undoubtedly an effective deterrent whose impact cannot be
quantified.
IMPROPER PAYMENTS AND BENEFICIARY INVOLVEMENT
As noted earlier, the annual Medicare payment error rate is based on a sample of claims
applied to total Medicare outlays. Audits required to determine the error rate result in the
recovery of a relatively modest amount of money—only those claims in a sample that are
found to be improper. The annual dollar value of the extrapolated estimate of improper
payments over the last ten years totals more than $150 billion. CMS reported a payment
error rate of 5.2 percent and 4.4 percent in 2005 and 2006, respectively, resulting in an
estimated total reduction of $11 billion in improper Medicare payments in those two
years (CMS 2006h). However, payment errors estimated in this process cannot be
equated to fraud, as the complexity of billing and other Medicare policies result in
numerous billing errors. A 2003 evaluation of the CCI by the OIG concluded that nearly
all of the services targeted by the CCI edits were paid appropriately in 2001, suggesting
that virtually all claims that should have been denied were, in fact, not paid. However, of
those claims denied under the CCI, the portion representing intentional fraud has not been
estimated (OIG 2003).
The involvement of Medicare beneficiaries in efforts to prevent and identify fraud has
had mixed results. The AOA/SMP program is credited with savings of “approximately
$104.3 million … since its inception” (HCFAC 2006). This estimate is based on
recoveries from referrals made by SMP participants to Medicare contractors. Experience
with the involvement of beneficiaries, however, has been mixed, in large part because of
the complexity of Medicare coverage and payment policies and difficulty of
distinguishing innocent billing errors from intentional fraud. Several former government
officials among our interviewees expressed the view that efforts to enlist beneficiaries’
help in identifying fraud have not been successful and would require a much more
substantial educational effort than is likely to be affordable and sustainable.
OTHER REPORTED STUDIES
Some additional empirical work in published literature has examined the impact of fraud
and abuse enforcement. A notable study by Becker and colleagues (2005) analyzed the
impact of increased support for fraud enforcement activities on the costs and quality of
care provided to Medicare patients. This study matched longitudinal data on Medicare
outlays, inpatient days, and adverse outcomes (e.g., readmissions, mortality) for six
diagnoses that are associated with fraudulent activity. The authors concluded that
increased fraud enforcement resources result in greater declines in expenditures (both
acute and postacute) without evidence of an increase in adverse health outcomes. There
were, however, significant differences in the effects of increased enforcement across
different types of patients (e.g., age, gender, and race) and hospitals (e.g., ownership type,
size, and location).
In an assessment of the impact of HIPAA on Medicare fraud, Hyman (2002) observed that
there has been insufficient attention to effective fraud control efforts in the private
insurance sector. He also suggested that Medicare has underinvested in prepayment claims
review and has compensated for this by imposing very severe sanctions on fraudulent
60
Cost Containment in Medicare: A Review of What Works and What Doesn’t
claims through the FCA and other legal tools. He concluded that the approach to fraud
control is largely driven by perceptions about the motives of providers—that is, whether
one assumes that most providers seek to do the right thing, or most are looking for
opportunities to cheat the system. He asserted that the design of a fraud control program
will necessarily reflect the perceptions of those who are responsible for adopting it.
Sparrow’s (2002) book argued that fraud in insurance programs and in Medicare
specifically goes largely undetected and results from “massive underinvestment in
controls” Without systematic measurement of fraud losses, it is not surprising that
insufficient resources are allocated to control the problem. He concluded that fraud “has
not been brought under control because the health care industry has underestimated the
complexity of the fraud control business and has never developed reasonable defenses
against fraud.”
CONCLUSION
Findings from the literature along with interviews with several individuals formerly in key
leadership roles with the relevant government agencies suggest a number of conclusions.
First, medical review of selected claims and pursuit of other liable third-party insurers by
contractors have proved to be the most cost-effective functions within MIP operations,
returning $20 to $37, respectively, for every dollar invested by CMS in FY 2005. Second,
very large settlements and judgments from qui tam or whistleblower cases under the federal
False Claims Act are cost-effective. The cost/benefit ratio from the resolution of these cases
continues to rise—currently at about $15 for every $1 of expense. The threat of FCA
prosecution is viewed as a significant deterrent to Medicare fraud.
Third, annual reductions in contractor payment error rates have significantly improved
the accuracy of Medicare payments, reducing by more than half the initial rate
determined in 1996, and avoiding $11 billion in improper payments in just 2005 and
2006. Fourth, use of corporate integrity agreements by the OIG in settlements of civil
fraud cases along with widespread voluntary adoption of corporate compliance programs
by providers is likely to have had a significant deterrent effect that cannot be quantified.
Finally, the limited literature focused on fraud and abuse prevention suggests in one case
that increasing the investment would return larger savings without adversely affecting
quality. However, there is a risk in demanding more resources and imposing additional
compliance costs. While recoveries from fraud and abuse enforcement strategies have
been significant, they remain relatively small in comparison to overall program spending.
That said, it is widely accepted that a significant deterrent strategy has limited the losses
to fraud, improved claims payment accuracy, and heightened attention to compliance by
Medicare providers. However, more aggressive initiatives—either through program
safeguards or law enforcement—could threaten the long-term political support that is
essential to sustaining these efforts and might upset the balance between effective fraud
control and the burden of compliance.
CONCLUDING OBSERVATIONS
Since the mid-1980s, Medicare payment approaches have evolved from cost based for
providers (e.g., reimbursement based on actual costs for hospitals and other institutions)
and charge based (e.g., reimbursement based on charges or list price) for physicians and
61
Cost Containment in Medicare: A Review of What Works and What Doesn’t
suppliers to various prospective payment models. These new models are specific to the
type of provider (e.g., hospital, SNF, HHA) and make uniform payments across providers
based on the average cost of care in a prior period. Prospective payment approaches,
generally, have given Medicare greater control over program spending and have given
providers new incentives to become more efficient because the providers bear some risk
for excess spending.
The relative impact of Medicare's cost containment efforts can be seen in comparison to
growth in health care spending for the private sector, especially in the 1990s, when many
of Medicare’s new payment systems were introduced.
Annual Growth Rates of Health Insurance Premiums
14%
12%
12%
10%
10%
10%
8%
8%
8%
5%
6%
5%
4%
2%
3%
5%
6%
7%
10%
8%
7%
9%
6%
4%
5%
4%
4%
Medicare
0%
1%
-2%
Private Health Insurance
-1%
-4%
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Source: CMS, National Health Expenditures, 2006.
For almost 25 years, Medicare's episode-based prospective payment system for hospital
inpatient stays has restrained cost increases for this sector, which continues to claim the
largest share of Medicare program spending (32 percent of total program outlays in 2006),
although some of the cost containment may be exaggerated, as what was inpatient hospital
care has shifted to post-acute or ambulatory care. Similar prospective payment approaches
have encouraged post-acute care providers, such as SNFs and HHAs, to contain costs,
especially in the area of ancillary services that formerly were separately billed.
The Medicare physician fee schedule stands out as a major payment system that remains
FFS based. Owing to a combination of technical and political challenges, Medicare has
not adopted an episode-based prospective payment approach for physician payment.
Instead, Medicare has adopted an evolving system of expenditure targets that
theoretically constrain overall spending by reducing future fee schedule payments if
utilization increases faster than a target rate. Starting in 1992, spending targets worked to
control physician spending for about ten years, providing substantial savings to Medicare
and its beneficiaries without reducing beneficiary access to physician services. Since
2000, annual growth rates in physician spending have returned to near historically high
levels. Concerned that physicians would reduce their commitment to seeing beneficiaries
or the quality of their services, Congress generally has not allowed across-the-board
spending cuts to take effect. Modifying the current physician payment approach
constitutes a high priority for policymakers.
In addition to the application of PPSs and fee schedules with spending limits, Medicare has
explored other payment approaches that offer potential savings. Medicare demonstration
62
Cost Containment in Medicare: A Review of What Works and What Doesn’t
programs have shown cost savings by combining prospective payments for all hospital and
physician services into larger bundles for a single episode of care (e.g., CABG surgery).
Combining prospective payments for an episode across acute hospital and post-acute care
settings is under consideration. Competitive bidding by suppliers of DME and private
Medicare Advantage plans could offer additional opportunities for savings.
While bundled payments and competitive bidding hold promise for substantial cost
containment, these approaches would require greater administrative effort by the
Medicare program than simply paying claims using national payment formulas under
PPSs and fee schedules. Larger payment bundles and competitive bidding approaches
would also change the relationship between the Medicare program and providers and
suppliers by demanding a much higher level of cooperation among different provider
types. The prospects for broader application of market-oriented competitive bidding
approaches remain uncertain. Much will depend on whether Congress is willing to
provide adequate authority and resources to CMS to support a larger administrative
infrastructure.
Aside from PPSs, Medicare’s record of programwide cost containment has been spotty.
Although research and demonstrations have shown promise in some areas, sufficient
support has not been forthcoming from Congress or the administration to expand
potentially effective approaches. A prominent example of the lack of political will was
the attempt to test a competitive bidding model for private health plan payment. Four
competitive bidding demonstrations were discontinued prior to implementation due to
political opposition, even though the last two had been specifically authorized in
legislation. In other areas as well, CMS has had authority to act more decisively to
restrain costs, but such efforts have been restrained by provider and beneficiary concerns
about access and quality.
Fraud and abuse enforcement and oversight have proven to be effective sources of program
savings. For example, medical claims review and recoveries from third-party insurers have
resulted in net Medicare savings that exceed the costs of these activities by 20 to 30 times
in some cases. The FCA has also proven to be a cost-effective tool against providers and
suppliers submitting questionable, possibly fraudulent, claims, as measured by recoveries
from settlements and judgments. In addition to recoveries, these enforcement and oversight
activities have a substantial deterrent effect on fraud and abuse. However, the amount of
savings from these activities is modest compared with total Medicare spending. In addition,
maintaining political support for these activities involves a delicate balance between
effective control of fraud and abuse and political opposition from providers that rises with
government enforcement and compliance burden.
Many economists consider that new health technology and new uses of established
technology are major drivers of cost inflation for the health care system generally and
Medicare specifically. In this report, we identify examples of CMS using its statutory
authority to make technology coverage decisions that limit new coverage, with presumed
cost savings. However, Medicare could use its coverage authority more aggressively by
increasing reliance on evidence-based decisions and using comparative and costeffectiveness analyses to guide decisionmaking. Although there have been some moves in
this direction, altering the bases for making coverage decisions faces formidable
obstacles, both political and technical, in the face of concerns about limiting beneficiary
access to cutting-edge technology.
63
Cost Containment in Medicare: A Review of What Works and What Doesn’t
Redesign of Medicare’s standard benefits package could promote more efficient, less
costly use of services. In particular, restructuring the level of beneficiary cost sharing and
establishing an annual out-of-pocket spending cap could, theoretically, reduce Medicare
spending, especially if, in addition, Congress were to place limits on the scope of private
(Medigap) supplemental coverage that Medicare beneficiaries are permitted to purchase.
However, such an approach would impose higher out-of-pocket costs on some
beneficiaries who currently have first-dollar supplemental coverage, and the increases
might be a heavy burden on other beneficiaries with lower incomes.
A series of Medicare demonstrations targeted to the relatively small number of
beneficiaries who experience high health care spending on an ongoing basis has
attempted to show that redundant and fragmented care and complications could be
reduced by providing supplemental care coordination and care management services.
Enhanced focus on the coordination and education needs of high-cost beneficiaries,
however, has not yet produced replicable and scalable programs than can reliably
constrain costs. Most such programs have not attempted to directly alter the care provided
by physicians primarily responsible for patients’ care. Care coordination approaches that
make better use of primary care physicians in a model characterized as a “patientcentered medical home” hold promise and will soon be tested.
Overall, then, Medicare has a mixed record with managing costs, with much greater
success in limiting the unit payments it makes to providers than on limiting the utilization
of services or reasonably restricting the services it pays for. Accordingly, there has been
long-standing interest in seeing whether private health insurance plans can do a better job
at cost containment than the traditional Medicare program.
Efforts to demonstrate that private health insurance plans could contribute to Medicare's
cost containment efforts began in the mid-1980s. Medicare began contracting with
private plans—initially HMOs and more recently including PPOs and private FFS plans,
together referred to as Medicare Advantage plans—with an explicit objective of reducing
overall Medicare program spending. However, after two decades, evidence indicates that
private plan contracting has consistently cost Medicare more, rather than less, than the
traditional program. If private plans are to become an effective cost containment strategy,
a different approach to paying them will be needed, such as enrolling high-cost Medicare
beneficiaries in high-cost geographic areas, as suggested by MedPAC and CBO.
However, political consensus to support changing the incentives and payments to
Medicare Advantage plans has not been achieved.
In sum, there is considerable evidence that modest cost containment has been achieved in
Medicare using various approaches, especially when growth in Medicare expenditures is
compared to growth in private health care spending. At the same time, some approaches
have shown potential for real cost containment but have failed to achieve that potential.
These mixed results strongly suggest the need for an ongoing assessment and, where
appropriate, revision of current and future strategies.
To develop, test, and refine strategies that effectively contain costs without unduly affecting
beneficiary access to and quality of care, Medicare may need to relax stringent budget
neutrality constraints that have routinely been imposed on demonstrations, as well as broader
program changes. Instead, net investment of resources may be necessary, at least in the
demonstration stage, to achieve long-term efficiencies and alter the slope of Medicare
spending growth. Funding for such investments could be derived by redirecting savings from
64
Cost Containment in Medicare: A Review of What Works and What Doesn’t
successful Medicare cost containment efforts, such as fraud and abuse control. Of course,
funding for demonstrations could also be derived from other sectors of the Medicare
program, as well as from outside the Medicare program. In light of Medicare's track record
on cost containment, as well as evidence from the private sector, new approaches to
developing, testing, and funding innovative strategies deserve serious consideration.
65
Cost Containment in Medicare: A Review of What Works and What Doesn’t
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APPENDIX
INTERVIEWEES
Aubry, Wade (former carrier medical director and former chair of the Technology
Advisory Committee)
Buto, Kathy (former CMS – Policy)
Cooper, Barbara (former CMS – Research and Demonstration)
DeParle Nancy-Ann (former CMS administrator)
Dowd, Bryan (director, Graduate Programs in Health Services Research, Policy and
Administration, University of Minnesota)
Harrison, Scott (MedPAC staff)
Moon, Marilyn (health economist, former Medicare Trustee)
Mutti, Anne (MedPAC staff)
Newhouse, Joe (health economist, former MedPAC commissioner)
Scanlon, Bill (former GAO, current MedPAC commissioner)
Thomas, Sarah (MedPAC staff)
Thompson, Penny (former program integrity chief, CMS)
Thornton, D. McCarty (former general counsel, DHHS/OIG)
Tunis, Sean (former head of coverage policy, CMS)
Wynn, Mark (CMS demonstrations)
Zarabozo, Carlos (consultant to MedPAC)
91
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