The US Healthcare System

This article is for informational purposes only and was last updated in 2015.

Healthcare is a complicated topic. Policies are often difficult to implement, and there are many stakeholders to consider. In 2010, the U.S. saw the passage of the historic Affordable Care Act (ACA) which was the most significant piece of health policy legislation in fifty years. To understand the impact of the Affordable Care Act, we must first understand the US healthcare system.

Introduction to the US Healthcare System

There’s a saying about healthcare systems. Three factors are essential to any healthcare system, but you can only pick any two.

Factors Affecting Healthcare Systems

1. Quality

Quality is the level of how effective services are. It is about “doing the right thing and doing it right.” Quality is a measure of how good medical care is.

2. Cost (aka financing)

These are the sources and uses of money that pay for healthcare services. It includes money to pay providers, drugs, medical buildings, etc.

3. Access

Access includes the affordability, availability, accommodation (provider is organized to meet client’s preferences), accessibility (you have insurance and coverage but no provider), and acceptability (the extent to which the patient is comfortable with the provider) of the healthcare system. If you meet all 5 As then you have access to healthcare services.

It is a question of whether people can see providers and get the services they need.

There are a few rare policies that have an impact on all three factors. For example, essential childhood immunization policies. By having a mandatory childhood immunization policy, we can improve the quality of healthcare, it lowers the long term cost of care and improves access to healthcare.

Branches of the US Healthcare System

The 5 Major Branches of the US Healthcare System

1. Providers

These are the people who deliver care. They form a large subset of the different types of providers such as hospitals, device makers, physicians, etc.

2. Payers

These are people who directly pay for medical services (such as insurance companies), but it could be individuals in certain cases.

3. Purchasers

These are the people who buy health insurance (such as businesses and individuals).

4. Patients

These are the actual consumers of healthcare services.

5. Policymakers

These are the people who work in various government agencies such as the Center for Medical Services (CMS) and they directly shape healthcare policy.

Healthcare reform has made a long journey since Roosevelt’s failed attempt to provide healthcare for all citizens back in 1912. In this post, we recap the major milestones of healthcare reform in the USA.

Timeline of Healthcare Reform in the USA

1. 1912

Theodore Roosevelt campaigned for health care for all but failed to get elected (this is after his presidency ended).

2. 1933-1945

Roosevelt developed the social security law and wanted to include medical coverage in that. The law initially met some resistance, but after World War Two, he made another attempt at healthcare reform, but he passed away before he could change it.

3. 1945-1952

Harry Truman, Roosevelt’s successor, made healthcare reform his major initiative. He didn’t have enough support to pass any legislation. Truman wanted to create a health system (which included providers). However, he did sow the seed for insurance for elderly Americans which Congress later passed as Medicare.

4. 1965

Lyndon Johnson created the Medicare and Medicaid program. This program was the most significant health reform in U.S. history and has continued to be until the Affordable Care Act was passed in 2010.

5. 1969-1974

Richard Nixon proposed health coverage expansion through private insurance, employers, individuals. However, this proposal and his presidency ended with the Watergate scandal.

6. 1993

Bill Clinton made a major effort tried to overhaul the healthcare system. While nothing happened and his efforts ended in 1994, this sparked a national conversation about healthcare in America. It did teach important lessons, which would be crucial to the leaders in charge of creating the Affordable Care Act.

The Affordable Care Act

Before the Affordable Care Act, there were three types of private health insurance markets, which were regulated by the state. There were large groups, small groups, and individuals.

  • Large Groups – Most large employers do not buy their health insurance, they are self-insured and employ insurance companies to be their administrators.
  • Small Groups – these range from 2 to 50 or 50-99 individuals.
  • Individuals

The largest insurer of the small and individual group market insures more than of those two markets even though there are thousands of insurance companies.

Why is the Premium Higher for Small Groups?

  • Premiums of $200-$1000 for small and individual coverage are common even with high deductibles. They also have limited coverage.
  • It is very common for people to be denied coverage or excluded from some coverage.
  • Premiums have two costs – expected costs and a loading fee
  • Loading fee – administrative and marketing costs + payment for bearing the risk
  • Economies of scale does play a part in lower premiums for large groups
What are the Risks?
  • Spending could be higher than predicted.
  • Adverse selection – those who want health insurance are likely to need it the most (costly patients for insurance companies). In the individual and small group market, a larger than expected number of people with extremely high costs, share a disproportionate amount of cost.

How Did Insurance Companies Reduce Risk Pre-ACA?

  • Market segmentation – specialize in small employers or individuals (sell to a target group – far less likely to be sick)
  • Medical underwriting – charge more for people whose medical history correlated with high costs (like old people)
  • Deny coverage
  • Exclusion of coverage for pre-existing condition (like don’t cover some diseases)
  • Use different benefits and cost sharing – attract people who would have lower expenses and discourage people with high costs. For example: Offering a health club benefit is attractive to people who consider themselves healthy versus someone who is old and overweight (discourages them)

Before the ACA, who were the uninsured?

  • 50 million Americans
  • 1 in 6 people under 65
  • 28% had household incomes above the median household income of $50,000. 90% of the uninsured had incomes less than 400% of the Federal Poverty Level. These households will get premium subsidies under the ACA or Medicaid coverage depending on their incomes.
  • 75% younger than 45 years of age (15% of them were children)
  • Half of them had incomes below $30,000
There has been a decline in employer-sponsored health insurance:
  • Premiums have doubled between 2002 and 2012
  • Premiums for small employers have increased by more than double

The Affordable Care Act was one of the most important pieces of healthcare policy in decades. Despite all the controversy, Congress passed the law. In the post, we will go over the specifics of the law and its impact on the American healthcare system.

Lessons Helped Pass the Affordable Care Act

  1. Presidential leadership is important. It was not possible to pass health care legislation without support from the President and the White House.
  2. A newly elected President must act quickly before political capital dissolves. The earlier in the term, the better.
  3. Leave the details to Congress. The President should focus on the bigger picture. He should educate the nation on why it matters.
  4. It has to be a bipartisan effort. The legislation could not have passed with support from just one party.
  5. The House and Congress must continuously communicate with the public.
  6. Don’t threaten existing insurance coverage (Clinton wanted to change it for everyone, Obama wanted to expand to those who didn’t have it).

Timeline of the Affordable Care Act

1. 2005

The American Medical Association, American Hospital Association, the health insurance industry and the pharmaceutical industry began to realize that the current healthcare system wasn’t working. The industry was a significant drag on the American economy.

2. 2006

Mitt Romney passed a broad health reform law in Massachusetts (healthcare for all). This law included insurance market reforms, insurance subsidies and he also created a mandate for individuals to buy insurance. Leadership in both parties passed the law.

3. 2009

President Barack Obama assumed office. A major part of his campaign was health care reform. There was a strong Democrat majority in the House and Senate. There was a sense of commitment to achieve healthcare reform.

4. Late 2009

The first signs of resistance emerged. The Tea Party made opposition to “Obamacare,” which they wanted to defeat. They made Republicans change their stance. They forced the perception that healthcare reform was a “democratic” law. The House and Senate passed bills, and the Democrats of both tried to reconcile the bills.

5. Jan 2010

Democrats lost a 60 seat majority. They could no longer move the final legislation between the House and the Senate. The Republicans could filibuster the voting. A filibuster is when a debate is extended, allowing one or more members to delay or entirely prevent a vote on a given proposal.

6. March 2010

The House passed the bill through the filibuster by accepting the Senate bill as is, which President Obama then signed into law. The law was called the Affordable Care Act. The following week the House and the Senate approved a follow-up bill, a budget bill called the Health Care & Education Reconciliation Act. This bill contained the changes to the ACA that the House wanted but couldn’t change because it wouldn’t have passed through the filibuster.

The Ten Titles of the Affordable Care Act (ACA)

Congress passed The Affordable Care Act (ACA) in 2010, but only in 2014 did it go into full effect. The ACA is comprised of 10 titles. You can think of each title as chapters. Each title or chapter deals with different health policy issues.

The Ten Titles of the Affordable Care Act (ACA)

1. Title I Affordable and Available Coverage

This title is all about private health insurance. Title I was implemented on January 1, 2014.

Some of the provisions of this title took effect in 2010 and 2011, like the ability of young adults to stay on their parent’s coverage till 26, which covered 3 million individuals.

Annual/lifetime limits were removed – With the limits, even if you paid your premiums your coverage could be limited if you became very sick.

How much your insurance company can spend on anything but your medical costs were limited, this is referred to as the medical loss ratio. This ratio is capped at 15-20%. Even as small of a provision this was in comparison to the entire bill,  passing just this would’ve been significant in health reform history.

Four significant parts of reform that came into play on January 1, 2014:

  • Since the 1940s, health insurance was based on medical underwriting. This underwriting relied on your answers to the questionnaire; your premium was high, or your insurer excluded expensive medical conditions from coverage. This is now illegal.
  • The Individual Mandate – all Americans who can afford insurance have to buy it. If they buy insurance, don’t then they have to pay a fine. This decision was made to ensure that the younger healthier population signs up (diversifies risk).
  • Subsidies were implemented to make insurance affordable. There are income-related subsidies for people above Medicaid (which is four times the poverty level of $15,000).
  • Creation of health insurance exchanges (marketplaces). These are websites to compare policies. States can either set up their own exchange or they use the federally facilitated marketplace.

2. Title II Medicaid & CHIP

The policies in Title II were aimed at reforming the Medicaid program. It was intended to be a revolution. However, the US supreme court (in 2012) ruled that the Medicaid expansions would be optional for the states.

Title II is equally as important as Title I, in expanding the Medicaid program. Until the ACA, the Medicaid program did not cover most poor adults without dependents and disabilities. The expansion of Medicaid is important as it is the only avenue for most low-income individuals.

Before the ACA, the Federal government subsidized 50-80% of the state’s’ Medicaid program, but for the first three years of the ACA Medicaid expansion program, the Federal government is willing to pay 100% for any new enrollees. The average reimbursement from the Federal government used to be about 56c on $1 nationwide, but it will bottom out to 90c on $ after the first three years of the Medicaid expansion program. This subsidization has resulted in everyone having health insurance except low income in states that have chosen not to expand Medicaid.

Title 2 ACA

3. Title III Delivery System Reform & Medicare

Title III deals with Medicare and improvements to medical delivery system. Medicare covers over 48 million Americans. Some changes include free annual wellness exams, preventive care services with no cost sharing, and the closing of Part D (referred to as the Donut Hole, which created a gap in coverage).

They also lowered the rate of payment growth rate for hospitals, insurance companies, and home healthcare companies. They did not change reimbursement for physicians. The reductions are expected to save about $450 billion over ten years.

Other reforms to improve efficiency:

  • Creation of the National Quality Strategy
  • Creation of the Patient-Centered Medical Home (PCMH) -a delivery system that assumes patient care responsibility for all primary care needs.
  • Creation of Accountable Care Organizations (ACOs) – these are provider organizations that integrate the delivery of care together. These organizations address the lack of coordinated care.
  • Introduction of penalties on hospitals for readmissions and hospital-acquired infections for patients discharged in the past 30 days.
  • Using bundled payments to pay for episodes of care.

4. Title IV Prevention, Wellness & Public Health

This title created policies to work on keeping people healthy. It created the National Prevention Strategy, the Commission and Trust Fund. The goal is to care for people to take care of people before they get sick.

It includes the coverage of clinical preventive services such as colonoscopy, mammograms, which insurance companies have to take on with zero cost sharing.

Other initiatives include calorie labels on food items (restaurants with more than 20 chains). This is a part of growing strategies to change the nutrition in food.

5. Title V Workforce Initiatives

Title V deals with the healthcare workforce and coming up with policies to address the shortage of healthcare workers. They increase funding for community health centers.

The Congressional Budget Office (CBO) is a nonpartisan federal agency that provides budget and economic information to Congress. They usually model estimates for the ten year periods, such as 2010-2019. They have estimated that over 16 million previously uninsured Americans would be covered by Title I and II each. However, after the Supreme Court rules that the individual mandate was constitutional, the number for Title I was estimated to be closer to 20-22 million and the number for Title II would be close to 12 million since it became optional for states.

6. Title VI Fraud, Abuse, Transparency & More

This title deals with fraud, waste, and abuse in the healthcare system. The goal is to make healthcare more efficient and transparent and of course, reduce fraud.

7. Title VII Pathway for Biological Similar

This title has created the opportunity for the FDA to approve biopharmaceutical drugs called biosimilars (what generic drugs are to prescription drugs).

8. Title VIII CLASS (Community Living Assistance Services & Support)

This title built on the American Disabilities Act but Congress repealed it in 2013.

9. Title IX Revenue Measures

This title discusses programs and tax increases to finance the ACA.

10. Title X Manager’s Amendments

This title includes all the changes to Titles 1-9. Remember the House passed the ACA bill as is to get it passed through the Senate. This title deals with all the changes that they wanted to make initially but if they were done individually it would’ve taken years to pass because of the political friction at the time.

Affordable Care Act (ACA) Financing

The spent column shows where the money is going, which is expected to be close to $960 billion. Most of this money is spent on Title I and II. The $54 billion in Title III addresses the Medicare Part D coverage known as the Donut Hole.

ACA Financing

Where does the money come from?

Since the law needed to be self-financed, Congress introduced changes to Medicare and Title IX. Title IX, which addresses financing, contributes $437 billion, from which the majority comes in the form of taxes added on to high-income earners (individuals with incomes above $200,000 or families with household incomes above $250,000). This is expected to contribute $200 billion to the ACA. Over the 10 year period, the CBO along with the Joint Committee on Taxation has estimated that the new law will actually lower the federal budget. It is estimated that the Affordable Care Act will produce a net decrease in the federal deficit by $210 billion as a result of changes in direct spending and revenues in this period.

Link to the entire ACA bill

Market Challenges to the Affordable Care Act

The Affordable Care Act created health insurance market exchanges:

  • Makes insurance more competitive
  • Makes it easier for consumers to understand their options
  • Requires everyone to have coverage (reduces risk of adverse selection)
  • Insurance companies have to issue coverage for everyone who applies
  • Have standardized benefits
  • That have no more pre-existing conditions/medical underwriting
  • Insurers can set higher premiums for older people, but cannot be more than 3x the premiums for younger people
  • Insurers can set a slightly higher premium for smokers (1.5x)
  • Insurance companies can appeal to states for funds if they believe they have received the sickest population i.e. the costs were too high

Insurance Marketplace Implementation Challenges

  • There are too many plan choices (wide vary of cost sharing options).
  • Insurers have created a narrower network of providers. It is unclear if this will reduce the quality of care. Younger people don’t have specific preferences for providers, so they are happier to pay a lower premium for a narrow network.
  • Some states have higher proportions of previously uninsured people (the larger number of people = the less risky pool). The states with smaller populations have come together to create regional exchanges.
  • “Bronze Trap”  – people (typically younger people) who buy the bronze health insurance plan – premiums are expected to be the lowest. Here the insurance company covers 60% of out of pocket costs while the enrollee pays the remaining 40%. While the out of pocket is limited, they may incur a hefty bill compared to their income. Underinsured – this happens when they suffer an unexpectedly high medical expense if they fall sick.
  • Disparities across states happen when states don’t expand Medicaid programs. Some people remain uninsured and don’t receive insurance subsidies.
  • Access to health care providers – if policies restrict people to certain specialties, there will be differences in access to care. Primary Care Providers may be in network but his referrals are not and individuals might not know that.

Traditional Medicare (Part A & B)

Medicare is one of the most important payers in the U.S. health care system. It is health insurance for the elderly and has four parts – A, B, C & D.

During the Great Depression, hospitals began noticing that people couldn’t afford the care as treatments were becoming more advanced and costly. When Harry Truman (after WWII) suggested that the Federal government should sponsor healthcare for all Americans, the American Medical Association (AMA) went on a campaign to defeat any legislation. However, the AMA felt the government would come in between the patient-physician relationship.

Before it was passed in the 1960s, most of the groups that supported government-sponsored health insurance were groups who wanted the government to help the disadvantaged population (such as farmers union, nurses, retired people’s association). The groups that were against Medicare were the American Hospital Association, AMA, and sizeable private insurance firms. At this point, doctor groups were mostly independent and entrepreneurial.

The election of Lyndon Johnson ensured a significant Democratic presence in the House and the Senate. However, the Republicans wanted some say in the bill, so they offered to cover physician services (at the time, it was only hospitals) and made Medicare income-eligible only.

Part A – this is the most significant piece. It is the hospital part.
Part B – this is the physician piece (it was voluntary). Beneficiaries had to pay for almost 50% of the cost.

Traditional Medicare (Part A & B)

As a part of this legislation, Medicaid was also introduced with income eligibility requirements.

The Evolution of Medicare

In 1989 Medicare catastrophic coverage (Medicare did not have an out of pocket limit) and prescription drug coverage was repealed because the beneficiaries had to pay 100% of costs. Now people can buy catastrophic coverage through the Medigap market or employer-sponsored plans or Medicare Advantage (which is the Medicare managed care program).

Medicare Benefit Expansion

The graph below shows the various sources of supplemental coverage that Medicare beneficiaries sought out to expand their original coverage.

Medicare sources of supplemental coverage

Other Major Policy Changes

provider payment reform

1. Inpatient Diagnosis Related Groups (DRG)

The DRG is what hospitals are paid, as an average cost, to take care of a patient with a particular disease.

2. Resource-Based Relative Value Units (RBRVU)

The RBRVU determines what Medicare pays for physician services. It took into account the time, stress and skill doctors put in to take care of a patient. This standard was hard to measure but was eventually implemented by private insurance too. Initially, Medicare paid physicians what is considered “usual, customary and reasonable.” When Medicare made these changes, it resulted in spikes of payment growths for other sectors (post-acute, physician services when DRG was addressed).

Medicare Cost Provisions

In 2003, Congress enacted the Medicare 45% Trigger, which meant only 45% of Medicare expenditures could come out of the Treasury,

3. Sustainable Growth Rate (SGR)

This legislation states that physician payment rate growth shouldn’t exceed the percentage growth of GDP. This temporary fix worked until the economy collapsed in 2001, and the SGR has been greater than GDP ever since. Congress has been “freezing the doc fix,” which is a permanent solution to the distortion between what physicians should be and what they currently are. If the government paid physicians according to SGR, then it would have reduced their payment rates by 25% in 2014. However, this didn’t happen as Congress elected to ignore the problem again.

Impact of Medicare

Impact of Medicare

The American population is aging quickly and a larger portion of the population will now be eligible for Medicare, while advancements in medicine have allowed people to live for longer.

Medicare forms a significant portion of the elderly’s security. Majority of them have incomes less than $22,000 and savings below $77,000. 40% have more than three chronic conditions. 20% of the elderly are eligible for Medicare and Medicaid.

Total revenue for Medicare – $532.7 billion (2012)
Medicare revenue

Where does the money for Medicare originate?

  • 40% – General Budget
  • 38% – Payroll Taxes
  • 13% – Beneficiary Premiums
  • The rest comes from the states

Where does Medicare spend all its money?

Medicare spending

Future of Medicare Financing

There is concern that the program was relying on the general treasury for its bills. The payroll taxes trust fund will not be able to support it at the current rate, but this situation has been projected in the past, so Congress has always made changes to the program to keep it sustainable (like changing the DRG rates).

Projected Medicare Financing

The white space (Hi deficit) is the part where the payments will exceed the funds.

How can Medicare increase its sustainability?

  • Increase payroll taxes
  • Increase beneficiary premiums
  • Reduce provider payments
  • Change provider financial incentives
  • Reduce benefits

Currently the elderly pay 25% of their Social Security benefit (which is their main source of income) towards their premiums. In 1996, 5 workers supported 1 person (through payroll tax). In 2006, 3.9 workers supported 1 person, and it is projected to be 2.4 workers per person in 2030.

The Affordable Care Act & Medicare

The ACA is trying to get costs under control, making Medicare more sustainable by reducing the rate of growth of costs.

Biggest sources of cost savings

  1. Reducing payments to providers –  $196.3 billion
  2. Reducing the amount paid to hospitals for the uninsured – $22 billion
  3. Reducing payments to Medicare Advantage to what it would’ve cost in traditional Medicare – $135 billion
  4. Increasing high-income individual premiums – $25 billion (Part B)
  5. Creating an independent payment advisory board (recommend proposals to Congress if the rate of Medicare exceeds certain targets, can only recommend payment reductions) – $16 billion
  6. Reform delivery system and payment incentives – <$20 billion because there isn’t much to estimate this on.

Medicare Advantage

Medicare Advantage acts a substitute for the Original Medicare Part A and Part B benefits. Medicare Advantage originated with the passage of the Balanced Budget Act of 1997, which offered Medicare beneficiaries this option, instead of receiving these benefits through the original Medicare plan (Parts A and B). The original intention was to reduce the budget deficit by paying a fixed rate per member to private insurance companies. The CMS budget contributes 5.4% (or $854.3 billion) to the country’s GDP.

The US promoted Health Maintenance Organizations (HMOs), and people wanted HMOs to be a part of the Medicare program.

Through the HMO Act, employers with 50 or more employees were required to offer HMO plans. Then the Center for Medicare & Medicaid Services (CMS) decided to demonstrate HMO plans for Medicare patients. These private plans take a fixed amount (called a capitated payment) to take care of Medicare patients. Therefore, Part C was created to be the HMO option.

The program now enrolls 28% of all Medicare enrollees. In Traditional Medicare (TM), patients can see almost any doctor they want to, but in MA they pay much less to see in-network doctors. By restricting this option, insurance companies can control costs which reduce premiums and increases coverage.

Payers (insurance companies) may seek doctors who don’t charge a lot or who don’t refer a lot to expensive doctors, and they try to coordinate the care, to keep costs down.

The amount the doctor gets depends on the area and the plans they offer.

Medicare Advantage

Under the Affordable Care Act, Medicare Advantage plans get a percentage of what Traditional Medicare would spend on patients in a county. For example, MA plans would get 95% of what Traditional Medicare spends on its most expensive patients. The reason being is that payers would be gain economies of scale to reduce costs.

The Medicare Advantage Bidding Process

  1. Medicare Advantage Plans bid for each county, and if the bid is below the benchmark of what TM would spend (95% of them are) then the plan is paid the bid.
  2. 50 to 70% of the difference between the bid and benchmark is a rebate, which the plan uses to lower premium, copays or adds extra coverage.

– The rebate is higher for higher quality plans
– The government keeps the other 30-50%
– The government risk adjusts the payments based on the enrollees, i.e. sicker patients get more money.

Medicare Advantage vs Traditional Medicare

Medicare Advantage has come under criticism for spending too much on advertising and costing taxpayers more than Traditional Medicare but is increasing in popularity post the Affordable Care Act.

Medicare Advantage seems to be gaining momentum after the Affordable Care Act as the number of enrollees increase.

– Marilyn Tavenner, CMS Administrator
  • Private plans can coordinate care within their networks.
  • Plans can negotiate rates with providers. While in Traditional Medicare, doctors can either take it or leave it.
  • Medicare Advantage plans are thought to be designed so that the sickest people choose Traditional Medicare by optimizing benefits in such a way.

In Traditional Medicare, there’s an incentive to over-serve as the more patients you see and bill for procedures, the more you get paid. While, in MA, the insurers have a fixed capitation per individual, so they have an incentive to underserve to keep costs under capitation.

Enrollees in MA may have to pay a monthly premium in addition to Original Medicare Part B (but this depends on the population demographics of that region).


  • People in Traditional Medicare can go to any doctor they like, while in Medicare Advantage, you can only go to doctors within your network.
  • Medicare Advantage plans are required to offer the same package that covers everything Original Medicare covers but not necessarily in the same way (i.e., they can offer lower copayment for doctor visits to balance out plans that require higher out-of-pocket costs.) They may use the capitation amount to offer supplemental benefits. However, the insurer pays for 100% of services once the individual reaches the maximum out-of-pocket costs.
  • Medicare Advantage must cover out-of-network costs if Traditional Medicare covers those procedures and tests.


In 2013, Medicare Advantage enrollees consisted of 14.4 million Americans (28% of all Medicare beneficiaries.) This is a 30% increase from 11.1 million in 2010.

Administrative Costs

Medicare Advantage Organizations are restricted to a 15% margin on administrative expenses and profit. There have been arguments made for and against the privatization of Medicare; specifically that the Center for Medicare & Medicaid Services (CMS) has a lower administrative cost than Medicare Advantage. However, the CMS cost does not include other government agencies helping out the CMS (like the IRS). Additionally, since Traditional Medicare tends to serve a “sicker” percentage of the population, its administrative cost to benefits paid would be lower than Medicare Advantage.

Results: Medicare Advantage vs Traditional Medicare

  • Data shows that there is a 20% fewer inpatient admissions utilization under Medicare Advantage
  • There is a 10% less utilization for outpatient services
  • People in their last few years of life used the Emergency Room 40-50% less in Medicare Advantage

Note: There are more preventive services in Medicare Advantage vs Traditional Medicare

The future for the Medicare Advantage program remains uncertain as proposed funding cuts are due to be voted on in the next few years. There were cuts proposed for 2015 but then they were reversed. Both programs provide plenty of benefits to enrollees, but with Medicare Advantage gaining momentum, will there be a reason to keep Traditional Medicare alive?

Policy Overview

The Affordable Care Act (ACA) planned $150 billion cuts into the Medicare Advantage program (MA) over the next 10 years to bring costs in line with Traditional Medicare costs. Currently, MA costs about 14% more than traditional Medicare per enrollee.

The ACA has established an annual fee on the health insurance sector that will impact MA revenues by 1.9% to 2.3%.

The ACA has also changed how CMS will pay Medicare Advantage Organizations (MAOs). This is done by phasing in benchmarks calculated as a percentage of per capital fee for service Medicare spending. This is likely to reduce MA plan payment benchmarks by 2.5%. There is a little confusion on how this benchmark will be set.

CMS began offsetting the effect of MAO’s more efficient coding in diagnosis reporting (since providers sent procedures not diagnosed so the patients seem riskier) by reducing MA plan payments (total of 4.91%)

Impact of ACA on Medicare Advantage

Projected Insurer Fees for 2014-1.9%-2.3%
ACA quartile impact for 2014-2.5%-2.5%
Star bonus increase for 20141.0%0.5%
Coding intensity change for 2014-1.5%-1.5%
Ratebook change for 2014-2.2%-2.2%
Total Reduction for 2014-6.9%-7.8%

Result – This will require an estimated $50-$90 increase in monthly premiums. However, the CMS has lowered the maximum premium increase/benefit reduction to $30.

How will Medicare Advantage Organizations make up this difference?

CMS recently announced that the average monthly premium for Medicare Advantage plans in 2015 would be $33.90—an increase of $2.94, or 9.5%, over the current year. But as a result of more individuals seeking out lower-cost plans, the CMS estimates that the average premium hike will be $1.30 per month. The agency anticipates that just more than 60% of beneficiaries who opt for private coverage will see no premium increase in 2015.


The Medicaid program was created through the Social Security Amendments of 1965, which added Title XIX to the Social Security Act. The Medicaid program was considered to be an afterthought when Congress drafted Medicare but today the Medicaid program is bigger than Medicare, and with the Affordable Care Act, it has become even more significant.

Like food stamp programs, the Federal government lays the ground rules and significant funding but it is up to states to participate. The states have the discretion to make changes to some of the rules (like include individuals with higher income levels or offer additional services).

The ACA & Medicaid

The ACA has made many changes to the Medicaid program, which is likely to make it one of the biggest programs in the United States.

A. Changes to the Medicaid Program

  • The ACA limits income eligibility to up to 138% of the Federal Poverty Line (an annual income of $15,000)
  • There is no longer a category of eligibility (pregnant women, children requirement, disabilities)
  • Federal match rate is now at generous at 90% vs. the previous 50-70%. This rate is the amount of money the Federal government pays to state government.
  • The Supreme Court made the ACA expansion optional for the states.

B. Other Provisions of the ACA

  • Removal of the asset test (it used to be complicated/expensive for people without any assets to prove that they didn’t have any assets).
  • The expansion of benefits (added addiction facilities and prescription drug coverage are now mandatory).
  • The creation of a new office to focus on the needs of dual eligibles of Medicare and Medicaid. These individuals account for the highest costs in the program.
  • Increase in payment rates for Medicaid services (as compared to what Medicare pays).
  • Reduction in a hospital funding safety net (since the law will cover more people, states won’t have to pay for uninsured people visiting the hospital).
  • Medicaid Primary Care Physician payment rates were matched with Medicare reimbursement rates.
  • Signing up for Medicaid

The process of signing up for Medicaid is not automatic. There are significant barriers to signing up like the lack of information (not knowing they are eligible), the stigma of receiving welfare, the lack of time to apply and not valuing the coverage (saying they will use it when they need it).

C. Staying enrolled in Medicaid

The program used to requires people to check eligibility every 3-6 months. People will now receive a tax credit on exchanges if their eligibility changes under medicaid.

D. Optional Changes to Medicaid

  • Coverage lasts for 12 months regardless of small changes (like an increase in income).
  • They have made the renewal process less frequent (not more than once a year).
  • The program can now use information from other programs (taxes, food stamps) to reduce the burden on the enrollee.
  • They are putting Medicaid plans on the market place so that if people switch from Medicaid to exchange plans, they can still keep the same providers.

Timeline of the Medicaid Program

After Medicaid was introduced, more than half of the states immediately signed up. The amount the Federal government pays varies state to state, generally, the Federal government pays 50-75% of total Medicaid costs.

Medicaid offers outpatient, inpatient, ER, maternity and long-term care coverage. It also includes some optional services such as prescription drugs (widely available now but this wasn’t covered initially since prescription drugs weren’t a big part of medical care in the 1960s), dental, vision, medical equipment (low coverage), transportation and low copays (up to 5% of income).

Timeline of the Medicaid Program

How has managed care fared?

States are looking to private insurance to help them manage Medicaid patients similar to how the Medicare Advantage program is run. Studies have shown results to vary state to state since the programs have different rules in each state.

Some studies show cost reductions, others better access to quality since managed care payers ensure a Primary Care Physician is assigned to a beneficiary. There is very little difference in quality, but managed care has helped beneficiaries stay in the program.

Who is eligible for Medicaid?

There is a perception is that Medicaid is for low-income individuals however prior to the ACA, the program covered (under some conditions) pregnant women, low and middle-income children, poor elderly and disabled people (it is the largest payer for nursing homes).

Did you know that Medicaid covered 40% of all children under 17?

Large variation by State

  • Texas does not cover adults without children, but New York covers all adults below the federal poverty line (roughly $5,000 a year).
  • Texas covers parents who make up to 26% of the federal poverty level, New York covers individuals 150% of the federal poverty level.

Medicaid Costs

It is harder to estimate Medicaid payments than Medicare payments because it depends on the economy (if the economy is doing poorly then it is likely that more individuals will qualify for Medicaid) and the medical conditions of patients can vary greatly.

Enrollment vs. Costs
Medicaid Costs

The Affordable Care Act adds more low-income adults so it may drive down per person spending. Some states are also experimenting with the Medicaid expansion like some states are charging premiums or higher copays for unhealthy behaviors, others like Arkansas and Iowa are using Medicaid dollars to purchase private insurance for low-income individuals.

Health insurance protects us from the financial risk of falling sick but you need a diverse pool of risk for insurance to work since some people will draw in more benefits than others. A small percentage of the population will use a large proportion of the cost.

Costs and Benefits of Expanding Medicaid

Benefits of Expansion

  • It protects some of the country’s poorest from the financial risk of bad health.
  • It gives more people access to good health.
  • Public insurance can help redistribute income.

Costs of Expansion

  • Raising tax dollars creates inefficiencies by introducing incentives that take away resources.
  • Future debt finances the expansion.
  • States can’t expand their debt, unlike the Federal government.
  • People may use public insurance over private insurance (resource redistribution).

It is difficult to evaluate the benefits of Medicaid since the people who qualify for it are very poor and have disabilities. These factors may affect the outcomes versus people who are uninsured.

For example, Medicaid beneficiaries have a higher mortality rate than people who are uninsured but it is likely that the Medicaid beneficiaries’ conditions (disabilities, low income) affect their mortality rate.

Medicaid Costs

This provided a rare opportunity to see the effects of the Medicaid program. The state of Oregon had 10,000 spots in the program but had a greater supply of enrollees (90,000). They chose enrollees by a lottery. It was ideal for a randomized control test. The study looked at the accepted enrollees in one group versus a control group.

Drawbacks of the Study

It only the first few years of the program and studied a relatively small population. Other studies like for Medicare have shown substantial increases in utilization over more time. The goal of the program is to provide a public benefit, which might not outweigh the cost.

Evidence on Costs

  • There was more utilization than before -an increase in hospital use, Primary Care Physician services and Emergency Room (ER) visits.
  • There was a 50% increase in the use of preventative care (doctor visits)
  • It actually increased E.R. use
  • Resulted in a 25-30% increase in overall utilization.
  • There is a case for moral hazard since the benefits of the subsidies made utilization more affordable.

Evidence of Benefits

  • It led to a reduction in financial strain. 25% less likely to send a bill to collection.
  • There was a drop in borrowing money.
  • Enrollees self-reported better health.
  • There was a decrease in rates of depression but did not improve blood pressure, cholesterol measurements.

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