Paying Medicare Managed Care Plans

By Buntin, Melinda Beeuwkes; Newhouse, Joseph P. | Generations, Summer 1998 | Go to article overview

Paying Medicare Managed Care Plans

Buntin, Melinda Beeuwkes, Newhouse, Joseph P., Generations

There remains one major obstacle to realizing the goals of containing costs and protecting access.

Decrying the conduct of managed care plans has become a popular pastime. So it may come as a surprise to many to learn that both the Clinton administration and the Congress wish to expand Medicare enrollment in managed care plans. To policy makers tom between the need to contain costs and the need to protect access to services, increased enrollment in-and competition among-health plans serving Medicare enrollees holds out the tantalizing possibility of furthering both goals. There is, however, a major obstacle to realizing these benefits-the problem of risk selection. Experts agree that this problem must be addressed in order for beneficial competition between health plans to develop and in order for the Medicare program to save money.

What is risk selection? Favorable risk selection occurs when people who are disproportionately healthier than average join a health plan (and conversely, for unfavorable selection). If rates are not adjusted to compensate, risk selection costs Medicare money and may cause sicker Medicare enrollees problems with access to care. Policy makers have attempted to address the problem of risk selection by paying health plans risk-adjusted rates, under which plans with sicker enrollees would receive more. However, current risk adjustment methods do not prevent risk selection. Furthermore, paying plans a fixed sum irrespective ofthe services they render offers a financial incentive to provide less care.


Medicare at-risk HMOs are paid a fixed amount per beneficiary enrolled per month. They are, therefore, at risk for any costs that exceed this amount and they profit if their costs fall below this fixed amount. Most private employers pay HMOs in a similar manner. Medicare cost HMOs, on the other hand, are reimbursed according to the cost they incur in caring for beneficiaries.

Enrollment in Medicare at-risk HMOs is growing rapidly. Between December 1993 and March 1997 enrollment more than doubled, and annual enrollment growth now stands at 35 percent per year. Approximately 12 percent of Medicare beneficiaries are now in at-risk HMOs (Physician Payment Review Commission, 1997). But because these enrollees tend to be younger and Medicare pays less for younger enrollees, the share of dollars going to at-risk HMOs is only around 6 percent. Health plans are showing greater interest in applying for Medicare risk contracts: About 5o percent of HMOs nationally have risk contracts or have applied for them, and others have plans to do so (Zarabozo, Taylor, and Hicks, 1996; Physician Payment Review Commission, 1997). Thus, the prospects for greater competition among health plans, which could theoretically lower costs and improve access, are good.

These trends are likely to continue as a result of the Balanced Budget Act of I997 (BBA), which for the first time allows provider-sponsored plans to accept risk contracts. The BBA also creates two new choices for Medicare beneficiaries: private fee-for-service (indemnity) plans that can pay providers of health services more than the Medicare fee schedule and recoup the excess by charging higher premiums, and Medical Savings Account plans, which are indemnity plans with a high deductible.' The BBA dubs at-risk HMOs, including physiciansponsored HMOs, private fee-for-service plans, and Medical Savings Accounts, "Medicare+ Choice" plans. In theory, all of these plans will compete with each other and with the traditional Medicare program for enrollees. Our comments about risk selection, although couched in terms of HMOs, apply also to the private fee-for-service and Medical Savings Account plans.


Almost all observers agree that the Medicare HMO program needs better risk-adjusted payments than those currently used. Traditionally the risk-adjusted payment rates, called the adjusted average per capita cost (AAPCC), paid atrisk Medicare HMOs 95 percent of what it cost to care for beneficiaries in the traditional Medicare program who lived in the same county. …

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