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Reversal of Fortune: Medicare+Choice Collides with Market Forces

As Policy Makers Ponder Short-Term Fix, Long-Term Plan Should Consider Marketplace Dynamics

News Release
May 22, 2002

Alwyn Cassil: (202) 264-3484

ASHINGTON, D.C.—As policy makers consider stopgap measures to prop up Medicare’s struggling managed care program, Medicare+Choice, a new study by the Center for Studying Health System Change (HSC) indicates longer-term reforms need to reflect broader market conditions that influence health plans’ decisions to participate.

In recent years, private health plans’ participation in Medicare+Choice has declined sharply, forcing more than 2 million beneficiaries to either switch plans or return to traditional Medicare. Another round of health plan pullouts is expected July 1 unless Congress delays the deadline for plans to decide whether they will participate in 2003. And, President Bush last week renewed a call for a one-time rate increase to help keep plans in the program.

Medicare+Choice’s reversal of fortune often is blamed on the 1997 Balanced Budget Act (BBA), which altered the administered-pricing system used to pay plans but continued to link the growth of plan payment rates to overall spending in the traditional Medicare program. Less attention has been paid to the role changing market conditions played in health plan withdrawals from Medicare+Choice.

"Positive market conditions in the mid-1990s spurred Medicare managed care’s growth, and declining market conditions, especially rising health care costs, intensified the impact of the 1997 legislative changes," said Joy M. Grossman, Ph.D., HSC associate director and author of the study along with Bradley C. Strunk of HSC and Robert E. Hurley, Ph.D., of Virginia Commonwealth University.

The HSC study cites three market forces as major drivers of Medicare+Choice’s rise and fall: underlying health care cost trends; the commercial insurance underwriting cycle, where plans first compete on price to gain market share and then raise premiums or exit markets to restore profitability; and health plans’ ability to negotiate favorable terms with hospitals, doctors and other providers.

"Medicare+Choice plans don’t operate in a vacuum, and broader market forces influence plan decisions," said Paul B. Ginsburg, Ph.D., president of HSC, a nonpartisan policy research organization funded exclusively by The Robert Wood Johnson Foundation. "While pumping additional money into Medicare+Choice in the short term may help stabilize the program, longer-term reforms need to make Medicare+Choice payment rates more responsive to changing marketplace conditions."

The study’s findings, based on HSC site visits to 12 nationally representative communities ranging from Boston to Seattle, are detailed in a new HSC Issue BriefReversal of Fortune: Medicare+Choice Collides with Market Forces.

Originally envisioned as a way to save taxpayers money and offer Medicare beneficiaries more choices and benefits, private health plans’ participation in Medicare managed care grew rapidly in the mid-1990s. But as enrollment grew, concerns about wide geographic variation in payment rates and other issues prompted Congress to make significant changes in Medicare+Choice’s administered-pricing system under the BBA.

HSC researchers found that health care costs grew slowly in the mid-1990s, in part because of managed care’s growing dominance. But cost trends accelerated in the latter part of the decade, especially prescription drug spending. Medicare+Choice payment trends followed the opposite pattern, rising quickly in the mid-1990s, when cost growth was low, and then slowing significantly after the BBA’s passage just as cost trends began to increase.

A major factor in the slowing of Medicare+Choice payment trends was slower-than-expected growth in overall Medicare spending caused by BBA reductions in the rate of growth of provider payments. Since 1998, many plans have received minimum 2 percent annual payment rate increases, while their underlying cost trends were much higher.

Before the BBA’s passage, many health plans viewed Medicare managed care as an attractive strategy to grow market share. However, by the late-1990s, signaling a turn in the commercial underwriting cycle and responding to rising cost trends, health plans shifted focus from growing market share to restoring profitability by raising commercial premiums. Under Medicare+Choice’s administered-pricing system, plans perceived little leeway to raise premiums and instead started to reduce benefits or exit unprofitable markets.

Additionally, providers’ initial willingness to accept risk contracts for Medicare+Choice enrollees declined, and many health plans by 2000-01 were having difficulty maintaining provider networks as providers backed away from risk-based contracting and demanded higher payment rates from plans.

Medicare+Choice reform proposals under discussion include:

  • Setting health plan payment rates at 100 percent of spending in the traditional Medicare fee-for-service program. This short-term approach is unlikely to stabilize plan participation over time because payment trends would continue to be linked to spending in traditional Medicare rather than health plan cost trends.
  • Severing the link to spending in the traditional Medicare program and establishing a new administered-pricing system similar to payment systems used for hospitals, physicians and other providers. This regulatory approach might improve plan participation if it could be designed to reflect plans’ cost trends more accurately.
  • Requiring health plans to bid competitively for Medicare business instead of relying on an administered-pricing system. This more market-oriented approach might improve plan participation by tying payment rates to health plans’ estimates of their underlying health care costs.

Regardless of the approach taken, policy makers would need to protect beneficiaries from undesirable fluctuations in cost, benefits and provider networks as private health plans respond to payment changes in the context of broader market forces.

Stakeholder Comments on the HSC Study

John Rother, policy and strategy director, AARP,
"The study clearly points out that Congress must consider broader market forces when reforming Medicare+Choice if beneficiaries are going to have stable and affordable managed care options going forward."

Jack C. Ebeler, president, Alliance of Community Health Plans,
"Health plans and providers with strong ties to the community can continue to offer comprehensive care and affordable benefits to Medicare beneficiaries, especially those with chronic illness and lower income, only if Medicare payments more accurately reflect the cost of that care."

Robert Berenson, M.D., senior adviser, Academy for Health Services Research and Health Policy,
"Any long-term fix to Medicare+Choice has to do a better job of tying payment rates to private health plans’ underlying health care cost trends and not to politically determined fee-for-service program payments."

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The Center for Studying Health System Change is a nonpartisan policy research organization committed to providing objective and timely research on the nation’s changing health system to help inform policy makers and contribute to better health care policy. HSC, based in Washington, D.C., is funded by The Robert Wood Johnson Foundation and affiliated with Mathematica Policy Research, Inc.


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