By Jeff Adams, October 22, 2014
Most people in the US have already been affected by the rapid rise in health care costs over the past several decades. This could include higher payments for health care services due to higher deductibles, copays, or other cost-sharing, or it could be paying higher contributions towards the premium as insurers charge higher and higher premium rates. The individual may no longer be covered under an employer plan if the employer decides that covering health care for employees has gotten too costly. Individuals may also be affected when a state, federal, or local government stops or reduces funding to a program on which the individual relies because money previously used for that program is now used to cover health care costs. Health care costs are gobbling up a larger and larger portion of the governments’ budgets, resulting in the elimination of funding to other programs such as funding for the arts or education.
The purpose of this article is to try to present some of the basics of the health care issue for those not familiar with the workings of the health care system as a whole. Misinformation often dominates the discussion of the health care cost crisis due to biases and the complexity of the health care system.
In particular, this article will try to answer the following questions:
Hopefully, the reader will get a better understanding of the scope of the issue and why more and more people believe that rising health care costs may be our country’s biggest problem.
1. When I see an article on rising health care costs, what is meant by “health care costs”?
Part of the difficulty in understanding the health care cost issue is that the term “health care costs” is used in many different ways. Health care costs can mean how much is paid in the US for health care in aggregate, how much an employer is paying towards coverage for its employees, the Medical Consumer Price Index, health care costs as a percent of the total US economy, or any of a myriad of other definitions.
The differences in meaning can cause confusion and the impression that studies are contradictory. For example, studies from earlier this year indicate that employer health care costs were not increasing as fast as in previous years. Another recent study by the Office of the Actuary at the Centers for Medicare & Medicaid Systems indicated that health care costs in the United States were projected to increase faster than in previous years. These may not be contradictory as employers may be reacting to higher health care costs by reducing benefits or not increasing their employer contribution towards the premium as fast as the overall premium is increasing, causing employees to pick up a higher portion of the cost. Both articles talked about “health care costs,” leading to confusion about why one said costs were increasing and one said costs were decreasing. In reality, one talked about health care claims costs, and the other talked about employer contributions to health care premiums for its employees. When reading an article on health care costs, the reader has to understand what the author is using as the definition of health care costs.
2. Are health care costs rising faster than in the past?
No. Health care costs as a whole in the US have been rising steadily over the past several decades. Increases may be temporarily reduced for a couple of years due to events like recessions (and the loss of insurance coverage due to job loss) and introduction of health care reform legislation (Hillary Clinton in the early 1990s and ObamaCare in 2010), but these are short-term slowdowns.
Health care costs as a percent of the US economy (Gross Domestic Product) has risen from approximately 12% in the 1990s to approximately 18% currently. This means that much more of our economy is dedicated to health care than in the past. These additional costs have to be passed on to those receiving care or those paying premiums for coverage for this care, such as employer-purchased health care or government-sponsored health care programs. An oversimplification is that health care costs in this period have increased (18%/12% – 100% =) 50% more than the economy as a whole.
Actuaries in recent decades had models that limited long-term health care trends under the assumption that action would be taken to prevent health care costs from exceeding 20% of our economy, as health care experts believed that health care costs exceeding 20% of our economy would cause major economic issues. These issues included excessive costs to employers of providing health care to its employees and critical budget issues for federal, state, and local governments. We are now within a couple of percent of that 20% mark, and we are beginning to see some of the issues that were predicted decades ago if health care costs remained unchecked.
Health care costs as a percent of the Federal budget have increased from 12% to approximately 25% over the last several decades. That means that (25% minus 12% =) 13% of the money in the Federal budget that was used for other programs has now been transferred over to cover the cost of government health care programs. This means a reduction in funding for, or elimination of, federal funding of non-health programs to make up the difference. Cuts in your favorite federal, state, or locally funded programs over the past couple of decades may be due to increased health care costs.
3. What causes health care costs to increase?
Usually, between 80% to 87% of the premium paid to insurance companies by employers, individuals, or other groups purchasing health care coverage goes towards actual claims incurred by the beneficiaries. The remaining 13% to 20% goes towards administrative costs such as the cost of processing claims, utilization management of claims, membership services, product development, marketing, profit loading, finance, and actuarial. The proportion of costs for self-insured plans (employer uses to pay claims administrator to simply process claims incurred by its employees) that go towards administrative costs is similar.
The onus for controlling health costs varies depending on whether a plan is insured through an insurance company or self-insured through a claims administrator. When coverage is purchased through an insurance company, the cost is the premium rate that is paid to the insurance company for coverage. An individual or employer may shop for coverage among insurers by looking at these premium rates as a measure of the cost of the plans. The insurance company is primarily responsible for controlling costs, which means controlling both administrative costs and claims costs.
When an employer purchases a self-insured plan, the “rate” that the employer will pay to the claims administrator is only for the administrative cost. The employer will pay the claims as the providers are paid. Controlling increases in claims costs is often not the main objective for the claims administrator, as they are often more concerned about controlling the administrative costs than controlling the claims costs. Employers often overlook the fact that they should research the impact on claims when trying to determine the cost change in going self-insured. Provider discounts and utilization management play a large part in controlling the claims side of health care costs. Many claims administrators do a good job on this, but it does add a little on the administrative cost side to obtain higher savings on the claims side.
Controlling administrative cost increases are easier to control than claims cost increases. A significant portion of the administrative cost can be altered by altering the number of persons employed, as long as essential services can still be provided. Some controls can be placed on other items such as marketing costs or mailing costs, etc. One difficulty in controlling administrative costs, though, is that the unintended impact of raising claims costs may be caused by lowering administrative costs. For example, nurses are used in utilization management to try to ensure that the care that is given is proper and necessary. Thus, eliminating utilization management positions may result in an increase in unnecessary or inefficient services and a corresponding increase in health care costs.
Claims cost increases are much more difficult to control. People tend to forget that hospitals, physician practices, pharmaceutical companies, and other health care vendors are businesses and, as such, need to bring in enough income to cover its expenses, which can include the cost of the building in which it resides, expansion, salaries, medical supplies, and more. Its method of obtaining revenue is through billing for services to payors, including insurance companies, self-insured plans, and government programs. Often the provider can increase the revenue it receives by simply increasing the amount that it charges for each service, resulting in increased payments by the insurer, the patient, or both. Another reason claims costs are difficult to control is that patients often ask for additional services or products, such as prescription drugs, and the provider or facility provides it rather than having an unhappy patient and possibly losing that patient to the provider or facility down the road. Utilization management is helpful and can reduce some unnecessary services, but it has limited impact, and insurers tend not to want overly intrusive red tape that might anger its members. This payors’ desire to eliminate payment for unnecessary claims results in constant tension between the providers, who are trying to keep their patients healthy and satisfied, and the insurers, who are also trying to keep their members satisfied but also trying to lessen the 30% of health care costs that studies say are due to fraud, waste, and abuse.
Increases in claims costs from year to year are due to increases in the amounts charged by providers and facilities for each procedure, increases in the number of procedures performed, and increased use of higher-cost procedures. These are the major categories, although they could be further defined. For example, procedures developed from new technology might increase the number of services, and it also might be higher cost than a service that it might replace, thus increasing the use of higher-cost services. Utilization may also increase due to effective marketing activities, such as with television ads for prescription drugs. On the physician side, utilization for specialists has historically increased significantly faster than utilization for primary care physicians.
These are the very general reasons why health care costs are increasing. Reducing these increases will be a difficult task as health care represents 18% of our economy and has become a very highly politicized issue.
4. Is ObamaCare causing health care costs to increase?
It depends on your definition of “costs.” One of the major goals of ObamaCare was to decrease the number of uninsured individuals. To the extent that these millions now have coverage and are now going to the doctor on a more regular basis, health care costs have increased as a whole in the US. Also, in order to set up the health care exchanges, employers have been required to pay fees to subsidize these exchanges. This results in slightly higher employer costs, but it is transferred to offset the cost of coverage for those purchasing coverage through the Exchanges.
There are also components in ObamaCare that are designed to help control health care costs through encouraging the use of high-quality and efficient health care treatment. It is much too early to determine whether these components will be effective.
Some of those claiming that ObamaCare increases costs are those who are not proponents of programs to cover the uninsured population. We have 40 million or so uninsured individuals in this country. Many who have health care coverage through an employer or otherwise tend to take their coverage for granted and have little sympathy for those without coverage.
5. Will ObamaCare cause a loss of jobs?
The answer to this question is somewhat complicated. Health care is 18% of our economy, as was stated before. If left unchecked, many additional jobs will be created in the health care field as the percent of our economy grows from 18% to 20% to 25%, etc. This implies that there will be a smaller increase in jobs in the future under ObamaCare if cost controls are effective than there would be if health care cost increases remained unchecked.
However, companies who offer health care will find this to be a daunting expense, and it may cause a limit on the number of employees that it can hire, implying that there may be a smaller number of employees if health care costs are unchecked. More likely, they will stop covering health care before laying off a significant number of employees so that the number of people covered under employer policies will decrease as health care costs increase.
6. I have health care coverage through my employer; why should I care?
The continued rapid growth in health care costs means that increased costs of covering health care for employers. Health care costs are rising faster than employer revenues (the money available to pay for employee health care benefits), putting increased pressure on the company’s bottom line. Over the past couple of decades, employers have reacted to this by reducing benefits or dropping coverage completely, a trend that will continue indefinitely into the future in the current environment.
Thus, employees covered under employer health care plans will increasingly find themselves without coverage through employers. They would then be able to purchase coverage through an exchange, but the coverage would be much more expensive than employer-subsidized coverage. Subsidies for lower-income individuals who purchase exchange coverage will help initially, but if health care costs continue to rise rapidly, then these subsidies would erode over time, possibly leaving coverage unaffordable for many, leaving them uninsured.
7. I have Medicare coverage; why should I care?
A continuation of the rapidly increasing health care costs that we have seen over the past several decades would, out of necessity, mean a fundamental change in the Medicare system in the future. It could mean significantly increased premiums for Seniors or a loss of a portion or all benefits.
Medicare and Medicaid have been eating up an increasing portion of the federal budget in the past several decades. An increase from 12% of the federal budget to 25% of the federal budget means that 13% of the budget that was used for other programs now has to be used for health care. Continued increases in the portion of the federal budget used for Medicare would soon mean decreases in essential programs such as our country’s ability to defend itself and maintaining the basic infrastructure in our society such as roads and bridges. Since this is not a viable option, then other alternatives would need to be enacted.
One such alternative has been to decrease payments to providers or hospitals for Medicare patients. This is becoming an increasingly impractical option as it only transfers health care costs to the already stressed employer health care market, the exchanges, or other commercial markets.
Another option is the premium subsidy program (sometimes called the voucher program). This will only pass high health care cost increases on to Seniors. With the idea that this would be enacted as a means to control government spending on Medicare, we can expect that the vouchers will only be increased by inflation (the Consumer Price Index) each year. Insurance companies would have minimal incentive to reduce costs, so trends would remain at current levels that are well in excess of inflation. As an example, if we assume that average Senior costs per month are $1,000 currently or $12,000 per year, that CPI/voucher increases are 3% per year, and that health care trends are 7% per year, then under this proposal, the Medicare beneficiary would have to spend over $7,000 in premium in 10 years and almost $25,000 in premium for coverage in 20 years. This would make the program quickly affordable for only the wealthy.
8. I have subsidized coverage on the Exchange; why should I care?
After a two-year transition period, these subsidies are only increased by the inflation (Consumer Price Index) portion of the health care trend; remember that health care trend also includes utilization and mix of service components. This means that the subsidies will erode over time as the health care cost increases in excess of CPI will be paid by the exchange enrollee, even if they have a subsidy. In an overly-simplified, if a plan premium was $8,000 in 2016, a beneficiary paid $1,000 for the benefit, the CPI increase into 2017 was 3%, and the premium increased by 10%, then the beneficiary contribution to the premium would increase by ($8,000 x (.10 – .03 = ) $560 for 2017 for a total of $1,560. These increases in premium would grow significantly over time, leaving coverage unaffordable for most individuals currently receiving subsidies.
9. I do not have Medicare or Medicaid; why should I care about cost increases in these programs?
Most people will eventually get Medicare coverage. This will help pay for very senior health care costs. Health care costs increase as individuals age. Costs for Seniors may be three to five times costs for an individual in his or her 30s. Health care costs will be very expensive without Medicare. See the section about Medicare.
Even if you do not get Medicare or Medicaid in the future, you will probably be affected by the increasing costs of those programs as they take up a larger portion of the federal budget. Increases in costs for these programs are squeezing out other essential items in the budget. The bridge down the road may not be able to be fixed due to a lack of money in the federal coffers. Money spent to protect Americans from terrorism may need to be cut at some point if health care costs are left uncontrolled. Funding for education will continue to be limited. Funding for arts, parks, and other programs will continue to be reduced or eliminated. Taxes may need to be raised to offset increases in Medicare and Medicaid costs since much of it is funded out of general tax revenues.
10. If this is such a huge problem, why do I not hear anything about it?
This is a very serious problem but involves a very complex and politicized issue: our health care system. Due to this complexity, the issue is rife with disinformation, accusations, and scare tactics. Attempts by either political party to enact controls on health care cost increases are greeted by the other side with charges such as “rationing health care” and “cutting jobs.” Attempts to control Medicare costs are met with immediate accusations about “cutting Medicare,” even though what is being attempted is only to slow the growth in Medicare.
For this and other reasons, much of the discussions are taking place behind the scenes in a lower profile environment. One of the efforts to keep politics out of the issue was the development of an independent task force that will recommend changes to Medicare. If Congress does not act to overturn these recommended changes, then these changes will automatically take place. The thought is that it would be easier to get effective change through this task force than to rely on Congress to come up with a plan and have both houses agree on it and the President sign off on it.
Other groups and associations, such as the American Academy of Actuaries, have been given the task of developing and commenting on proposals to improve quality and efficiency in our health care system. This is a major undertaking and will not be accomplished in a year or two.
A growing number of people believe that health care is the number one issue in the United States. Failure to modify our health care system could lead to massive uninsured rates and government entities that spend so much money on health care that they cannot appropriately protect the infrastructure, security, and future of its residents.
Changes need to be made to our health care system sooner rather than later. These changes need to resolve issues with all sectors of our health care system and not just transfer costs from one sector to another, such as from Medicare to the commercial sector. Waiting until the problem is critical would eliminate some of the better options that would fix problems gradually. There are some who believe that the longer we wait to fix the problem, the more likely the fix will be drastic, such as a nationalized health care system such as that in Canada and Great Britain.
ObamaCare was not the best option available, but it was better than the status quo. Congress and the President need to work together to improve ObamaCare, not repeal it and return to the status quo. Continued politicization of this issue will, once again, cause nothing to be done and create a crisis situation in a matter of ten years or so, if not sooner.