A Medicare Intervention

We can fix the system by paying beneficiaries to help control spending

By Steven Hofman

It's an economic truism that the more society is willing to pay for something, the more of it we get. Just look at all the services provided by Medicare. Already costing $370 billion annually, the program is projected to balloon in future years as aging boomers require more and costlier care. Unfortunately, Medicare has long upended another economic principle, the one about the consumer growing increasingly cost-sensitive as spending on a commodity increases. Instead, there are virtually no incentives in the program for beneficiaries to care about how those dollars are spent.

The problem is straightforward. Why would anyone on Medicare question the cost of a test, the value of a procedure, or the need for all kinds of high- and low-tech medical equipment when the bill for most of what they get is paid not by them but by someone else (in this case, taxpayers)? So if either party is serious about showing it can govern effectively, getting control of Medicare in 2007 would be a good start.

It's not that no one has tried to fix Medicare. Numerous ideas have been put forward, and many efforts made over the past 20 years. But whether these ideas failed because they weren't enacted, or were enacted but neglected to provide effective answers, they failed nonetheless, largely for two reasons: They didn't engage stakeholders in an actual solution, and they asked beneficiaries to accept less than they were already getting without giving them anything in return.

That suggests America needs to stop thinking that new forms of health-care service allocation, price controls, and bureaucratic measures will do the trick. They haven't fixed Medicare in the past, and there is no reason to think they will in the future. Instead, we need a way to mobilize recipients into an army ready to battle uncontrolled Medicare spending. Remember that all modern armies have one thing in common: Members get paid. Every Medicare beneficiary must be paid to be part of the Medicare solution. Here is how the system can work:

Medicare beneficiaries would receive an annual rebate of 50 cents for each dollar they save the program. If someone saves Medicare $500, she would get $250. For saving Medicare $5,000, a beneficiary would get $2,500. It's that simple.

The other simple idea under this approach is that all Medicare beneficiaries would continue to get the same coverage they are entitled to under current law. This plan is not about denying people health-care coverage; it's about giving them incentives to make the kinds of choices they would make if they had to reach into their own pockets to pay their bills.

Beneficiaries' spending decisions would set their annual rebate level. A rolling three-year average, with the lowest two of the three determining the average, would set an individual's savings target. Beating that would trigger a rebate. This would help ensure that any one year of high spending (say, on heart surgery) does not create a skewed average and a subsequent windfall just for returning to relative good health. It would also limit the ability to game the system by shifting spending from one year to the next.

In the first two years of Medicare coverage, beneficiaries will not have a Medicare history to establish savings targets. To navigate this, and to make sure good choices (rather than good health) set the rebate level, the spending levels of the lowest 50% of first-year beneficiaries should set rebate targets. After that, the rebate would be determined by individual spending patterns.

It is, of course, impossible to predict with absolute certainty this reform's fiscal effect. But if the 35 million nondisabled Medicare beneficiaries reduced their spending by a mere 5%, then $13.12 billion would be saved annually. And each additional 1% reduction adds $2.62 billion in further savings. Half of that would go to the federal government, and the other half to those Medicare beneficiaries actively helping to control Medicare expenditures.

Congress should proceed by testing these ideas. A three-year, large-scale pilot program, for example, would provide the opportunity to compare the savings of participants against a control group and to deal with the possibility of rewarding false savings. That's a sensible yet dramatic step. But decades have been spent trying to rein in Medicare's cost growth. Rule-based schemes have failed miserably. It's time to give the marketplace—consumers and providers alike—an opportunity to succeed where government has not.

Views expressed in Outside Shot are solely those of contributors.

Steven Hofman, an adviser to CEOs, is former director of research and policy for the House Republican leadership.

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