House Budget Committee Hearing
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Chairman Ryan, Representative
I would like to begin by saying a little about the role of the
I am appearing before your Committee today in my role as an independent technical advisor to
In view of your Committee's interest in budgetary impacts, and the
I would also like to caution the Committee about the uncertainty of financial projections for health insurance programs. Certain aspects of projections, such as the demographic characteristics of the population, are relatively predictable. n1 Projections of health cost trends, however, are much more uncertain and depend critically on future economic developments, advances in medical technology, and other factors.
It is helpful to consider
Health spending in the U.S. has generally increased at a significantly faster pace than the economy, rising from 5.2 percent of GDP in 1960 to 17.9 percent in 2010. The upward trend has fluctuated somewhat, depending on the business cycle (which affects GDP growth) and on faster or slower periods of health cost growth. For example, national health expenditures represented about 13.8 percent of GDP for much of the 1990s, reflecting stronger-than-average real economic growth during much of this period and the widespread adoption of managed care health plans. Conversely, the share of GDP devoted to health care accelerated sharply in the early 2000s in part as a result of the public backlash against health care utilization controls and the economic recession that began in 2001.
From their enactment in 1965,
Chart 2 shows the proportion of total U.S. health expenditures by source of payment for 1976 compared to 2010. n2
Chart 2--Distribution of national health expenditures by source of payment, 1976 and 2010
Source of payment 1976 2010
Individual's out-of-pocket costs 27% 12%
Private health insurance 24% 33%
Other third-party payers and programs 11% 7%
Public health 2% 3%
Investment 9% 6%
* Expenditures by private health insurance plans grew at a somewhat slower rate as a result of the widespread adoption of managed care plans, including health maintenance organizations and preferred provider organizations. In addition, many employers sought to reduce cost growth by taking advantage of competition among insurers and through more frequent adjustments in employee cost-sharing requirements. Also, the proportion of the population with employer-sponsored insurance has declined over time.
* Contrary to popular conceptions, the aging of the post-World War II "baby boom" generation did not have a large impact on the increase in
Chart 3 helps to explain why health care costs tend to increase at a faster rate than the overall economy. As indicated, health care cost growth averaged 9.6 percent per year from 1965 to 2010. About 1.0 percentage point is attributable to the growing population (more people, more health expenditures, all else equal). General, economy-wide inflation contributes to higher medical prices, adding about 4.0 percentage points on average over this period.
In addition, medical prices tend to grow at a somewhat faster pace than general economic inflation, since (i) a greater proportion of health care is produced by human capital than in the economy at large, and (ii) productivity improvement is lower for health care providers, reflecting their higher labor share and the individualized nature of many health services. Together, these factors have increased medical prices by about 1.4 percent annually above the level of economy-wide price growth, as measured by the GDP implicit price deflator.
Over time, people tend to use more health care services, and the services tend to be more complex and expensive as new technology is developed. The "volume and intensity" of services per person has added about 2.9 percentage points per year to personal health care expenditure growth. Together, the increases in population, general prices, excess medical-specific prices, and volume and intensity, plus a small contribution from changes in the age and gender distribution of the population, have resulted in an overall average growth rate for personal health care expenditures of 9.6 percent over the last 45 years.
Similarly, growth in the economy can be decomposed into several roughly corresponding factors. The first of these is the increase in the number of workers, which has averaged 1.7 percent during 1965 to 2010--aided in part by the entry of the baby boom generation into the labor force.
The impact of general economic inflation, at 4.0 percent, is the same for both health expenditures and nominal economic growth. The increase in real (inflation-adjusted) GDP per worker occurs primarily as a result of productivity gains and has averaged 1.2 percent over this period.
Collectively, these economic growth factors add up to 6.9 percent, which has been well below the 9.6-percent growth in health expenditures. (As suggested by the trend variations shown in chart 1, the differential between health cost growth and economic growth has not been constant over time.) Going forward, employment growth is likely to be somewhat slower than overall population growth as the baby boom generation leaves the work force. The effect of general inflation is the same for both categories, but, based on past trends, labor productivity growth isunlikely to keep pace with continuing increases in excess medical prices plus the volume and intensity of services per person.
Another way to assess the causes of rapid health care expenditure growth is through an economic analysis of the key factors leading to increased demand for services and higher costs. Chart 4 summarizes the most recent research in this area, as published by
Factor Contribution to growth (percent)
Income effects 28-41
Relative medical price inflation 8-21
Demographic effects 7
Change in insurance coverage 10
Income growth has long been identified as a primary contributor to higher health spending. As individuals, or nations, become "richer," they tend to spend an increasing amount on health care. Smith et al. estimate that real per capita income growth during 1960 to 2010 was responsible for between 28 and 41 percent of the increase in real per capita health expenditures.
Relative medical price inflation (above and beyond economy-wide inflation) was found to have contributed between 8 and 21 percent. Demographic effects were not substantial over this period, but they explain about 7 percent of total health cost growth, while broader availability and higher levels of health insurance account for another 10 percent.
The impact of technology on health cost growth is usually measured as the residual, after all of the factors above have been estimated. In the Smith et al. analysis, technology is estimated to account for between 26 and 45 percent of historical real health expenditure growth per person. (In practice, other factors that are not separately estimated will also be included in the residual category. Such factors are believed to have only a small effect.) Technological advances contribute to expenditure growth both through the adoption of new treatments, devices, and drugs, such as implantable defibrillators, and through the ability of the health sector to apply existing services to a broader group of people, for example heart bypass and hip replacement operations to older patients. Although some new technologies enable the provision of existing services at lower costs, historically most technology has been cost-increasing. Growing incomes and the widespread availability of health insurance facilitate a ready market for new developments, even if their cost is much higher than existing treatments.
As the Trustees and I have cautioned, it is important to note that the actual future costs for
The primary sources of financing for the
* Payroll taxes--Part A of
* Income taxes on
* Beneficiary premiums--Parts B and D of
* Payments by States--With the transfer of prescription drug costs for dual Medicare-Medicaid beneficiaries to Part D of
* Fees on prescription drugs--Starting in 2011, manufacturers and importers of brand-name prescription drugs are required to pay annual fees, with the payments credited to the Part B trust fund account. These payments reduce the premiums and general revenues otherwise required to finance Part B.
* Federal general revenues--Roughly three-fourths of Part B and Part D costs are met by the general fund of the Treasury. As with beneficiary premiums, general revenues for these programs are reset annually and increase at the same rate as program expenditures. Consequently, income for Parts B and D automatically matches expenditures without the need for legislative adjustments. As a result of this financing basis, and the slowdown in payroll tax receipts due to the 2008-2009 recession, general revenues recently became the largest source of
In the early years of
Chart 6 shows past and projected
Expenditures are projected to increase as a share of GDP thereafter, but at a slower rate than historically as noted previously.
Together, the SGR formula and the reduced payment updates under the Affordable Care Act are estimated to permanently reduce
The first approach is to simply reduce payments to providers--hospitals, doctors, and pharmaceutical companies. This blunt strategy can work, often quite well, in the short run. It is inherently limited over the medium and long term, however, unless accompanied by other measures to reduce the underlying quantity of services provided. If only
If the SGR provision continued to be overridden and the productivity adjustments to other provider payment updates became unworkable, then future
Chart 7 shows the long-range projection of
In 2010, total
For comparison, costs under the illustrative alternative projections increase rapidly throughout the long-range period, reaching 10.7 percent of taxable payroll in 2085, compared to 6.2 percent under current law. Thus, depending on the long-range feasibility of the SGR provision and the slower payment updates for other providers,
It is possible that providers can improve their productivity, reduce wasteful expenditures, and take other steps to keep their cost growth within the bounds imposed by the
The effect of the baby boom generation on
Historically, total (Federal plus State) expenditures on behalf of
Chart 9 shows Federal, State, and total
Medical assistance payments (MAP):
Acute care benefits2
Long-term care benefits2 76.3 36.7 113.0
Capitation payments2 71.5 32.4 103.9
DSH payments2 8.7 6.5 15.2
Adjustments3 4.7 3.6 8.3
Subtotal MAP 259.7 123.4 383.1
Administration payments 10.1 8.0 18.1
Vaccines For Children program 3.8 0.0 3.8
Gross outlays 273.5 131.4 404.9
Collections -0.8 -0.1 -0.9
Net outlays 272.8 131.3 404.1
Chart 10 presents the distribution of
As indicated in chart 11,
States have taken many steps in recent years to try to reduce
Chart 12 shows projected
My final graph (chart 13) illustrates the level of national health expenditures as a percentage of GDP under several hypothetical cost growth rates in the long-range future. On average during 1960 through 2010, per capita health care spending increased at the rate of growth in per capita GDP plus another 2.6 percentage points. If that long-range past trend continued in the long-range future, national health expenditures would represent more than 100 percent of GDP--an obviously impossible situation. The pursuit of better health will continue to be extremely important, but it cannot crowd out food, clothing, housing, and all other necessities and desires of life.
Over the last 20 years, health spending has increased at the rate of GDP plus 1.9 percent. Even if this rate continued into the indefinite future, health care would represent an untenable proportion of total economic production. As the late economist
Most people would agree that certain developments, which could reduce the rate of health spending growth, would be very undesirable. For example, if individuals' premiums and cost-sharing liabilities were to increase significantly faster than their incomes for a sustained period, then many might find these costs unaffordable and have to drop out of their insurance plans and forgo needed services. Health expenditure growth would slow--but only because an increasing amount of appropriate care would be forgone. A similar situation could occur if employers continue to face cost increases for their group health insurance plans that outstrip their revenue increases, forcing them to scale back or drop their employee coverage to remain financially viable. Alternatively, if payment rates to health care providers were reduced or slowed too much, as may have already occurred for some State Medicaid plans and as may be the case in the future for
Many ideas have been developed and tried over the years in an effort to reduce health care cost growth. Examples include the development of prospective payment systems and other bundled-payment mechanisms; the widespread adoption of managed care plans; efforts to facilitate more prudent use of health care services through consumer-driven health plans and medical savings accounts; use of "lean production" techniques by hospitals and other facilities; and, most recently, the development of accountable care organizations, medical homes, disease management, and other efforts to better integrate the delivery of care. Most of these efforts have had some positive impact on lowering the level of health care costs, but there is relatively little evidence that they have succeeded in reducing cost growth rates.
As indicated by the Smith, New house, and Freeland analysis of the causal factors underlying health care cost growth, the two largest contributors have been rising incomes and new medical technology. It is not surprising that increasing incomes prompt both individuals and nations alike to seek better health care. This trend could persist for many years, although demand for continually more and better health care services would presumably slow if meeting that demand could be accomplished only by reduced consumption of other necessities or high-priority goods and services.
The development and adoption of new medical technology may prove to be pivotal in future efforts to slow health care cost growth. Numerous studies have found that most new health technology has been cost-increasing, encouraged by comprehensive insurance coverage that shields individuals from most of the additional direct costs of using the new technology. Over time, as all payers continue to seek ways to reduce costs and as providers can no longer be assured of revenue flows that will automatically adjust to their higher cost levels, the medical research and development community may direct their efforts more toward new treatments, devices, and drugs that can provide health outcomes that are equal to or better than those provided by existing technology but at a lower cost.
Signs of such a change in focus are already apparent. For example, efforts are underway to produce a one-time-use implantable defibrillator, which would be just as effective in an emergency as the existing multiple-use devices but would cost far less. In overseas health markets, most developing nations cannot afford the expensive health technology produced in the U.S., and a market is developing for somewhat less effective--but far less expensive-- technology, such as fewer-slice / lower-field-strength MRI machines. As this market grows, U.S. providers, payers, and developers may join in.
A related area of policy consideration is "comparative effectiveness research." While controversial, the potential benefits of these efforts are significant. There have been many examples of new drugs and devices that have offered only a limited improvement (if any) over existing treatments but that cost substantially more. The introduction of the proton pump inhibitor drug Nexium, when the nearly identical drug Prilosec was about to lose patent protection, is a well-known example. n13 It is reasonable to expect that science can be applied to assess whether a new technology's minor gains justify what might be a major increase in expenditure.
Finally, public and private efforts to research alternative health care delivery systems and payment methods could lead to innovative new approaches with the ability to improve the quality of care and/or reduce the cost of care. The program authorized by the Affordable Care Act, through the new
Thank you for this opportunity to meet with your Committee. I applaud your efforts to strengthen
n1 For example, in 1957 noted actuary and demographer
n2 The National Health Expenditure accounts also track health care spending by type of service (such as hospital care, physician services, and prescription drugs) and by source of financing (governments, businesses, and households). The historical and projected NHE accounts are available at http://www.cms.gov/NationalHealthExpendData/01_Overview.asp .
n4 For hospitals, skilled nursing facilities, home health agencies, diagnostic laboratories, and most other providers of health services,
n5 Federal Insurance Contributions Act and Self-Employment Contributions Act, respectively.
n6 The Affordable Care Act also specifies that individuals with incomes greater than
n7 These projections are drawn from the 2011 Medicare Trustees Report and thus do not reflect the Budget Control Act of 2011, the Temporary Payroll Tax Cut Continuation Act of 2011, or the Middle Class Tax Relief and Job Creation Act of 2012. The forthcoming 2012 Trustees Report will incorporate these impacts.
n8 Orszag, Peter R., "How Health Care Can Save or Sink America," Foreign Affairs Vol. 90, No. 4, July/
n9 As described in my
n10 To help illustrate the degree to which the current-law projections potentially understate actual future costs, the
n11 The forthcoming 2011 Actuarial Report on the Financial Outlook for
n12 "National Health Spending Projections Through 2020: Economic Recovery and Reform Drive Faster Spending Growth," Health Affairs Vol. 30, No 8 (2011). http://www.cms.gov/NationalHealthExpendData/01_Overview.asp .
n13 See, for example, Dr.
Read this original document at: http://budget.house.gov/UploadedFiles/FosterTestimony_2-28-22012.pdf
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