What Happens When Traditional Medicare Has to Bid Against Private Plans?
An Example of How the House Bill Would Privatize Medicare
June 18, 2003

The U.S. House of Representatives is considering legislation that would force the traditional Medicare program to bid competitively against private insurance plans, beginning in 2010. Embedded in the House Medicare prescription drug bill, this proposal may sound innocuous, but let's look at how it would really work.

We start with five Medicare beneficiaries, with the following yearly medical expenses:

Amongst them, they have total medical expenses
of $26,000, or an average of $5,200 each.

Now imagine that Congress has enacted the House Medicare drug bill, which requires the traditional Medicare fee-for-service program to enter into competitive bidding with private insurance plans.

So traditional Medicare would bid $5,200 per person for Bill, Jane, Joan, James, and Sam, since that's the average cost of caring for these five folks.

But a private plan, DollarCare, comes in and advertises at athletic clubs and enrolls healthy Bill.

DollarCare (knowing roughly what the traditional Medicare bid is) bids $5,000 per member. But, since they are clever about their marketing, they enroll healthy beneficiaries who only cost $1,000 each. This ensures that they have a high profit ($5,000 bid - $1,000 expense = $4,000 profit per enrollee). The existing Medicare law requires DollarCare to give Bill some extra benefits; these extra benefits make the plan more attractive to other people when they hear about the "extras."

In addition, there's another wrinkle. The new House bill rewards beneficiaries who choose "cheaper" plans. Here's how it works: Each year, the government will compute a new "benchmark" by calculating the average payment for each Medicare beneficiary. In the beginning, the benchmark is $5,200 (that's what Medicare has been paying, on average, for the five people). Because the DollarCare bid of $5,000 is $200 under the "benchmark" of $5,200, Bill and the government get to split the difference: Bill gets to pocket 75 percent of the savings ($150), and the government/Medicare saves the other 25 percent ($50).

So a year passes, and it's time for a second round of competitive bids. What happens to the bids in the second year? The four people left (Jane, Joan, James, and Sam) had combined expenses of $25,000, so traditional Medicare submits a bid of $6,250 per person, the average cost for caring for these four people. DollarCare has a good thing going, so they bid $5,000 again.

Then the benchmark is adjusted to reflect the average per-person cost of everyone in Medicare—those in traditional Medicare and those in private plans. The new benchmark is $6,000 (Bill in DollarCare at $5,000 and the four others still in traditional Medicare at $6,250).

Now all the people in traditional Medicare have to pay an extra $250 in premiums because their "plan" (that is, the traditional Medicare program) has submitted a bid $250 higher than the benchmark plan ($6,000). Meanwhile, lucky Bill gets 75 percent of the $1,000 "savings," the difference between DollarCare's $5,000 bid and the $6,000 benchmark.

DollarCare keeps advertising at REI and Elderhostel and attracts fairly healthy Jane.

Obviously, traditional Medicare's premiums will continue to spiral upward as this process repeats itself each year. Traditional Medicare will become a plan of the very sick, very frail, very elderly—those who need lots of services, want to keep their long-time doctors, etc.

This is the beginning of an insurance death spiral that will ultimately destroy the traditional Medicare fee-for-service program. The older, chronically ill people who need the types of services offered by traditional Medicare will face ever-spiraling costs. As the premiums for traditional Medicare rise, the price tag will drive them into private plans like DollarCare, even though the academic literature shows that private plans are not good for the very old, chronically ill.

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Phone: 202-628-3030  E-mail: info@familiesusa.org

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