CENTER FOR
POLICY STUDIES

Would it be good public policy for a voluntary public plan to include a legislated cap on or targets for growth of spending, per enrollee, per year?

Joe White
Draft, June 23, 2009
(cite, but only while saying it’s a work in progress)

Abstract

Legislation that creates a voluntary public insurance option as part of a new market competition that helps insure all Americans should probably include legislated targets for the growth of premiums in the public plan. These targets should be adjusted for the risk-profile of the enrollees in the public plan, so that attracting greater risks should not provoke more stringent cost control measures within the public plan, while any favorable selection towards the public plan should not reduce its administrators’ responsibility to control costs. Targets may seem attractive for political reasons, as a way to try to direct favorable Congressional Budget Office “scoring” of the costs of reform. But the best reason for targets is that they contribute substantially to effective cost control.

There are many arguments in favor of offering a voluntary, publicly-sponsored insurance alternative as part of a reformed U.S. health care system.¹ But advocates such as myself have argued that the most compelling is the ability of a public plan to offer improved control of costs.² Opponents of the proposal have virtually admitted as much by claiming it would create an “unlevel playing field” because the public plan could use government power to pay medical care providers less than private insurers pay, giving the public plan the ability to underbid private insurers in the competition for employer and individual premiums.

Attacks on the public plan for being more effective might seem reasonable to providers who view cost control as income reduction, or insurers who see superior competitors as a threat to their corporate incomes. They should seem less reasonable to public officials, citizens, and employers who are being slammed by high and rapidly-growing health care costs. Yet even from the payers’ perspective, there are two very legitimate questions: “how much might be saved?” and, “how can we be sure?”

One logical response is to set some sort of targets for or caps on spending under the public plan. But is that a good idea? It could strengthen the public plan approach, but could also cause concerns about being arbitrary or unenforceable. This essay concludes that setting targets would, on balance, be good policy.

Targets for What?

Total spending must depend on how many people enroll, and the point of this design is to have people choose their insurance, so legislating totals would contradict the purpose of the program. Therefore any target should be for premiums, not total spending. Either the premiums themselves could be determined by some formula each year, or the annual increase in premiums, once the system was set up, could be constrained by law.

In current debate, much of the focus has been not on the base level of costs but on the annual increase in costs per beneficiary. In the terms used by the Congressional Budget Office, “Excess Cost Growth” – the annual increase in costs per beneficiary above the growth in per capita GDP – is the main long-term threat to the federal budget.³ It is also the main threat to affordability of insurance for any other payer. Therefore the cost control challenge has been restated, as in President Obama’s May 11 press conference with leaders of the health care and insurance industries, in terms of cutting the rate of growth in health care spending.⁴ Targets for cost growth would be framed in relationship to the trend of per-capita GDP. For example, as in Medicare’s Sustainable Growth Rate formula for physician payment, the target could be to hold costs to the growth of per capita GDP; or that figure plus a 0.5 percent or 1 percent. In contrast, CBO’s long-term estimates of medical care costs assume “excess cost growth” of at least two percentage points per year over the trend of per capita GDP.

Spending Growth and the Costs of Reform

Trends in costs of a public insurance plan will be an important factor, though not the only factor, in the federal budgetary impact of any health insurance expansion.

Proposals for a voluntary public plan presume that a health care reform also includes some mechanism for offering a variety of plans to consumers and employers through some sort of health insurance “exchange.” Many people will require government help, through some sort of subsidies, in order to afford this insurance. Costs of reform to the government, therefore, will depend in part on the cost of those subsidies. The cost of subsidies will depend on the eligibility rules for subsidies; what degree of contribution from beneficiaries is considered acceptable; the benefit package that is considered adequate; and how much it costs the eligible insurance plans to provide the required benefits.⁵ If the public plan is part of the design, and can provide a benefit level less expensively than private insurers can do so, that should have two effects. First, participation in the public plan will reduce total costs, and so required subsidies, by the difference between public and private plan costs for the enrollees in the public plan. Second, in order to compete more effectively with the public plan, private insurers might find ways to make their premiums less expensive, thereby reducing government costs for subsidizing those enrollees.⁶

If these assumptions are believed by the Congressional Budget Office’s analysts, as they should be, then including a voluntary public plan should cause them to report that the average cost of insurance in a system with a public plan will be lower because insurers will be able to charge less, on average, than if there were no public plan.⁷ This in turn would mean less need for new taxes or spending cuts or higher deficits, so that budget scorekeeping for a system with a voluntary public plan would make it seem more attractive than a proposal without the public plan – except, of course, to people who for reasons of self-interest or overriding ideology would rather cut more other spending, raise more taxes, or run higher deficits in order to avoid “government” interfering with “the market.”

The Estimation Problem

If they accept the logic for a public plan, CBO’s analysts still will have to answer the same questions as would interest any payer: “how much might be saved?” and, “how can we be sure?” But how will CBO judge that?

Even if the public plan has a credible set of cost control methods, CBO cannot know how those cost controls will be used, or even that they will be used. If there is no stated policy about target costs for the public plan, the logical approach for CBO is to just assume that its costs will increase at the same rate as those of any other insurance. CBO could reasonably assume that the costs to start with of any public plan might be lower than for private insurers, due to lower administrative overhead. But it would have no basis for making assumptions about how the cost control levers available to the public plan’s administrators will be used.

Yet the public plan, like any private insurer, will have policies about cost control. It cannot avoid doing so, because there will be some rules about how providers are paid. We are long past the period when insurers just paid the “usual and customary” fees of any provider. Any public plan also will have some policies about its administrative expenses.⁸ Much of the current debate about a voluntary public plan involves what those policies should be. Advocates of a “strong” public plan want it to have a policy of paying the same rates as Medicare (perhaps phased in to that level over time); advocates of a “weak” public plan want to forbid it from using the Medicare rates. Advocates of a “strong” public plan want it to be able to build its network, and market power, by requiring all participants in Medicare to participate in the public plan. Advocates of a “weak” public plan want to make participation in it entirely voluntary for providers, and totally separate from the right to bill Medicare. In short, the law that creates a public plan will inevitably include policies about the plan’s ability to influence the prices it pays for services.

Because the law will include implicit policies about the cost control capacity of the public plan, and because the administrators of the public plan should have political guidance about cost control expectations, it makes sense to make targets for cost control explicit. Explicit standards would also help the public plan managers set or negotiate the payments per service. Without standards, the incentive to limit protests by conceding to provider demands would be stronger. With standards, managers would have backup if they claimed, “we’re just doing our job.”

Targets for the annual increase of costs per enrollee therefore would serve many purposes:

* Targets would tell providers, plan managers, and CBOs what the goal for cost control is;
* Targets would stiffen the spine of plan managers in conflicts with providers;
* Targets would force legislators to consider how the cost control capacity given to the public plan by its terms fits an explicit goal for system performance; and
* Targets might be viewed by CBO as a directive as to how to score the premium costs for the public plan.

It will certainly be easier for CBO to estimate premium trends for the public plan if there is some explicit statement of what the trends are supposed to be.

Targets, Caps, and “Global Budgets”

Many analysts over the years have argued that cost control requires some sort of overall cap on the resources poured into the medical care system. The basic approach has been described as “setting a global budget,” or “shutting off the spigot,” or, as Wildavsky put it, as “The Law of Medical Money,” which “states that medical costs rise to equal the sum of all private insurance and government subsidy… If the Law of Medical Money predicts that costs will increase to the level of available funds, then that level must be limited to keep costs down.”⁹

Setting a target for premium cost increases is essentially the same idea, only it emphasizes the annual spending increment, rather than the budget total. The wide range of scholars who have advocated some sort of overall limits on spending (or at least on increases) can point to an equally wide range of experience. In all systems other than the United States, decision-makers with some responsibility for costs operate with some constraints on spending. If spending is on a government budget, as in Canada or Sweden, the pressure comes from overall budget policy, driven by the Treasury or Ministry of Finance. If insurance is of the German or French sickness fund model, the constraint is the total premiums paid to the sickness funds. Most systems of cost control then have some sort of slippage; but nobody would imagine setting spending policies such as the fees for services without reference to a goal for the totals.¹⁰ Specific constraints cannot be justified without an understanding of overall constraints.

From this perspective, setting targets for spending by the public plan should seem an obvious component of a good program. What, then, are the objections?

Objections: Capacity and Consequences

The most basic objection is that wishing, in the form of setting a target or even legislating a “cap,” does not make it so, in the form of spending at the end of the year. “Global budgets” are not meaningful without measures to hold the various components of health care spending within sub-targets. And there have certainly been examples of spending exceeding even “hard caps.” For many years, for example, German hospital spending tended to somewhat exceed targets. In the United States, the “sustainable growth rate” formula for Medicare physician payment in theory should be enforced by cutting fees one year if spending exceeded targets in the previous year. But Congress and the President have, in recent years, chosen to override the formula that would impose fee reductions.

Whether spending can actually be held to caps depends on technical and institutional capacity, the measures available for cost control; and on political capacity, the will to enforce those measures. Both problems apply to the Medicare SGR: even if enforced it would involve a lag, but there has been insufficient will to enforce it. If CBO were asked to estimate the spending results of caps on physician spending in a public insurance plan, it might report that it is obligated to assume enforcement would occur. But it would be highly likely also to say something like, “but we don’t think that is realistic, and here is what spending would be under other assumptions” – just as it does now with its estimates of future Medicare spending with the SGR provisions of the law.¹¹

Therefore, if the goals are actually to control spending and to convince uncertain legislators that spending will be controlled, simply mandating targets for premium growth may not be sufficient, even though it is necessary. Legislation must provide reason for CBO and other observers to believe experience will be different in the future than the recent experience with the SGR. In this case, for example, the administrators of the public plan, in tandem with the administrators of Medicare within CMS, should be required to adjust the relative value scales for fees at least every other year. Such adjustments would allow larger fee reductions for services of which volume is increasing especially quickly. This would have the effect of preventing one of the obvious problems with across-the-board SGR fee reductions, which under current law would slash primary care providers’ incomes because specialists’ incomes are rising too quickly.¹² Even more fundamentally, administrators of the public plan should be given substantial authority to establish payment rates, and their ability to implement such rates will be much greater if the public plan is linked, in its contracting, to Medicare.¹³ Targets are not a substitute for strong cost control instruments.

Targets also have to be credible as an overall direction for the system. I would argue, for example, that it is clearly fair, maybe even generous to providers, to hold spending increases to no more than one or ½ percent per year, per enrollee, over the growth of per capita GDP. That would direct an ever-growing share of the nation’s wealth to the medical industry; if they cannot live on that, the rest of us should have little sympathy for them. There is room for plenty of debate about stricter standards.¹⁴ But at some point a standard would be too strict, and then enforcement unlikely to have popular support. One way to make targets more evidently fair and enforceable is to link them to a dedicated flow of revenues that is seen as fair.¹⁵

Targets would be neither credible nor fair, however, if they were set in an arbitrary manner without plausible cost controls. That was the heart of the dispute in the mid-1990s over proposals by the congressional Republican leadership, with support from some less conservative economists, to replace Medicare’s guaranteed benefits package with a voucher system that some called “premium support.”¹⁶ Congressional Republicans sought to save money by turning Medicare into a voucher system and capping the annual increase in the voucher. They claimed competing insurers would hold spending increases to the legislated level, or less. But what if insurers could not do so? In a straightforward voucher system, if the caps were real, either the benefit package would have to be reduced, or beneficiaries’ premiums would spiral upwards. Thus, in its reports on cost control options, CBO said that a voucher system with legislated limits on the premium increases would save money compared to trend – but with significant risks to beneficiaries.¹⁷

There is one further important implementation issue. In any system of competing insurers, the incentive for managers of any plan is to seek to recruit healthier-than-average enrollees. The benefits of manipulating the risk profile of their members far exceeds (so far) any capacity insurers have to gain by managing the costs of care for their enrollees. Therefore any system of competing insurance plans requires not only extensive regulation of marketing, but measures to risk-adjust the premiums paid to plans – transferring funds from the plans with favorable risk pools to the plans with unfavorable risk profiles.

The managers of any public plan are likely to be less aggressive about avoiding sick people and recruiting healthy people than the managers of private insurance plans will be. Even with good regulation, there will probably be some adverse selection against the public plan by the private insurers. Financial consequences of that adverse selection could be reduced by a good risk-adjustment system.¹⁸ But if costs grow more quickly in the public plan because it each year attracts a slightly more expensive pool of members, it should not be forced to control costs more tightly as a result. To put this another way, in a system with targets for premium amounts, those targets should be adjusted for the risk profile of a plan’s membership. In a system with targets for premium increases, those should be adjusted for changes in the risk profile.

Conclusion: CBO, Good Policy, and Good Politics

Within the current politics of health care reform, one argument for legislating either premium standards or standards for premium increases for a voluntary public plan is, CBO would be required to “score” the savings that would result if the legislation were actually implemented. CBO has, in fact, followed such instructions in estimating future spending under the current Medicare SGR system; and in the 1990s it was ready to score the budgetary costs of a Medicare voucher system according to the rules set for the prices of the Medicare voucher.

In each case, however, CBO made clear that the estimates were questionable as a matter of policy, by identifying the relevant risks and uncertainties in its reports. We should expect CBO to issue similar caveats if it has reason to doubt the plausibility of targets or caps in health care reform legislation.

Yet establishing targets for totals is a fundamental part of any spending control regime. It sets the standards that guide calculations for and politically justify decisions about control of spending details. Without some such guidelines, CBO also would have even less way to judge the actual effects of any set of cost control measures within health care reform.

Therefore health care reform legislation that includes a voluntary public plan should include targets for either the premiums charged by the public plan, future increases in the premiums, or both. Such explicit standards would make both cost control and favorable estimates more likely.¹⁹ Yet the legislation must also ensure that the public plan has the power needed to make the promised cost control credible. It must be credible so CBO does not raise serious doubts (CBO always will express some uncertainty); so readers of the reports therefore believe the projected savings; and, most important, so the savings actually occur.

Endnotes

¹ For basic arguments for this approach, see Jacob S. Hacker, “The Case for Public Plan Choice In National Health Reform,” available at http://institute.ourfuture.org/report/2008125116/case-public-plan-choice-national-health-reform; and Hacker, “Healthy Competition: How to Structure Public Health Insurance Plan Choice to Ensure Risk-Sharing, Cost Control, and Quality Improvement,” available at http://www.ourfuture.org/files/Hacker_Healthy_Competition_FINAL.pdf . The approach has also been promoted, with more good analysis, by the Commonwealth Fund: see, e.g., http://www.commonwealthfund.org/~/media/Files/Publications/
Fund%20Report/2009/Feb/The%20Path%20to%20a%20High%20Performance
%20US%20Health%20System/1237_Commission_path_high_perform_
US_hlt_sys_WEB_rev_03052009.pdf

² As an example see Theodore Marmor, Jonathan Oberlander and Joseph White, “The Obama Administration’s Options for Health Care Cost Control: Hope Versus Reality.”  Annals of Internal Medicine 2009; 150 (April 7): 485-489.

³ Congressional Budget Office, “The Long-Term Outlook for Health Care Spending.”  November, 2007 (Washington, DC: Congressional Budget Office).  See also Richard Kronick, “Understanding the Medicare Financing Problem,” in Len M. Nichols and Robert A. Berenson eds., Making Medicare Sustainable (Washington, DC: New America Foundation, 2009).  Downloadable from http://www.newamerica.net/files/MakingMedicareSustainable.pdf

⁴ “Text: Obama’s Remarks on Health Care Reform.”  New York Times (May 11, 2009), downloaded from http://www.nytimes.com/2009/05/11/us/politics/11obama.text.html?ref=politics

⁵ Net federal costs will depend on other factors as well, but the cost of the insurance received by a majority of Americans, as we should expect for the insurance obtained by choosing in an exchange, must be a significant factor.  Other factors include, depending on the proposal, expenses for expansions of Medicaid eligibility or Medicare benefits; any savings from spending in existing programs (such as reducing the payments to Medicare Advantage plans); and any increased revenues.

⁶ A third source of savings might exist if the private insurers are allowed to pay providers the same fees as the public plan pays.  This would provide the most direct and greatest savings; for discussion see Joseph White, “Cost Control and Health Care Reform: The Case for All-Payer Regulation,” available at http://ourfuture.org/healthcare/white.  A companion report addresses implementation issues.

⁷ With “be able to charge” in this case meaning, “be able to charge while meeting a reasonable standard for solvency.”

⁸ Medical care costs are the product of the prices paid per service times the volume of service, plus administrative overhead for the system.  The volume of services is influenced by a very wide range of factors, some more and some less easily manipulated by policy.  Many are not addressed much, if at all, by current payers.  But all payers make some efforts to manage their administrative costs and the prices they pay for services, and so have some effect on their total costs.

⁹ Aaron Wildavsky, “Doing Better and Feeling Worse: The Political Pathology of Health Policy.” Daedalus, Vol. 106, No. 1 (Winter, 1977), p. 109.  See also Stuart H. Altman and Alan B. Cohen, “The Need for a National Global Budget,” and Henry J. Aaron and William B. Schwartz, “Managed Competition: Little Cost Containment Without Budget Limits,” both in Health Affairs Vol. 12, Supplement (1993); Robert G. Evans, “Going for the Gold: The Redistributive Agenda Behind Market-Based Health Care Reform,” Journal of Health Politics, Policy and Law Vol. 22, No. 2 (1997), pp. 427-466; and Uwe E. Reinhardt, “Comments on the Jackson Hole Initiatives for a Twenty-First Century American Health Care System,” Health Economics Vol. 2, No. 1 (1993), pp. 7-14.

¹⁰ Providers, of course, argue that any particular total is “too low,” and will have devastating effects on health care values; so that their preferred spending on the details should just be added up to determine the total.  Good budgeting does require that the effects on the details be taken very seriously – but it also requires that there be serious attention to the affordability of totals. For a discussion of both the necessity of targeting totals and some of the challenges of enforcement, see Joseph White, “Markets, Budgets, and Health Care Cost Control,” Health Affairs Vol. 12, No. 3 (Fall 1993), pp. 44-57.

¹¹ See as one example Congressional Budget Office, The Budget and Economic Outlook: Fiscal Years 2009 to 2019 (Washington, DC: January 2009), pp. 20-21

¹² For further discussion of this issue see White, “Cost Control and Health Care Reform,” op cit.

¹³ Combining the market share of the voluntary public plan with the market share of Medicare will make it more likely that both insurance systems will be able to control costs.  The major reason is that, in some markets, Medicare administrators now must worry, somewhat, that powerful specialty groups will reject Medicare’s fees and choose to only sell their services to private insurers of the under-65, non-disabled population.  If the public plan covers some of that population as well, the threat to exit the combination of Medicare and the public plan will be reduced. 

¹⁴ My personal view is that there is sufficient waste available to be rung out of the system – such as extra administrative costs from unnecessary or pernicious aspects of the insurance and payment systems, or excess payments for drugs, that, after adjustment for the costs of insuring the uninsured, there is little reason for total spending as a share of the economy to grow for a number of years.  But my opinion is not going to count!

¹⁵ As in the German or French or Japanese systems, where insurance is funded by contributions as a percentage of payroll, mainly.

¹⁶ See, for example, Henry J. Aaron and Robert D. Reischauer, “The Medicare Reform Debate: What Is the Next Step?”  Health Affairs Vol. 14, No. 4 (1995), pp. 8-31; and the criticisms in Theodore Marmor and Jonathan Oberlander in “Rethinking Medicare Reform,” Health Affairs Vol. 17, No. 1  (1998), pp. 52-68.  Then Aaron and Reischauer replied, and Marmor and Oberlander replied, and I published a letter, and meanwhile Congress and the President had already enacted cost controls that relied on traditional regulation rather than vouchers and were wildly, though temporarily, successful.

¹⁷ See, for example, Congressional Budget Office, Long-Term Budgetary Pressures and Policy Options (Washington, DC: CBO, 1998), pp. 51-52, 57-61.  In the actual GOP proposals of 1995-96, fees in the remaining traditional fee-for-service program would have been slashed if costs of private insurance rose too quickly.  The intellectual inconsistency of that approach is staggering.

¹⁸ Whether it will be reduced sufficiently, only time can tell.  I’m fairly agnostic.  But the adequacy of risk adjustments for the premiums will be a concern whether or not there is a public plan.

¹⁹ It should be evident that cost control measures that extend directly to the entire system beyond the public plan; and standards for the entire system, not just the public plan; would be even more desirable, from a pure cost control perspective.  But controls on the costs of the voluntary public plan, for reasons explained at the beginning of this analysis, would still be helpful.