A prescription for fixing what ails Medicare

November 1, 2007

The Diagnosis and Treatment of Medicare, by Andrew J. Rettenmaier, PhD, and Thomas R. Saving, PhD. Washington, DC: The AEI Press, 2007.

The Diagnosis and Treatment of Medicare, by Andrew J. Rettenmaier, PhD, and Thomas R. Saving, PhD. Washington, DC: The AEI Press, 2007.

A large percentage of US cancer patients depend on Medicare, but over the years the program has developed a peculiar malady—it is weakening from malnutrition while gluttonizing the federal budget. Despite its deteriorating condition, many Americans keep circling the wagons around a common ethos: I work, I pay taxes, and therefore I'm entitled to unlimited healthcare retirement benefits. However, according to a sobering new book, The Diagnosis and Treatment of Medicare, without aggressive reform Medicare's worsening condition will place an untenable financial burden on America's healthcare system.

To their credit, authors Andrew Rettenmaier and Thomas Saving cut through the bloated rhetoric that plagues most serious discussions about Medicare reform. As the metaphorical title suggests, before offering treatment they essentially do an MRI on Medicare to see the nature and extent of its ailments.

In short, Medicare as we know it is doomed by a gathering storm of demographic forces that will eventually overwhelm its current generational transfer system with too few new workers to pay for its burgeoning population of retirees. Given the current structure of Medicare, retirees are too sheltered from the fiscal realities of healthcare spending to be concerned.

This phenomenon of psychologically detached spending patterns is central to the authors' thesis—what ails Medicare is what ails healthcare in America.

After analyzing and diagnosing the causes of Medicare's malaise, Rettenmaier and Saving score in detail several reforms that would redefine Medicare's coverage and/or commitments to retirees. They acknowledge, given the ominous projections from the Medicare Trustees Report, that no one reform will solve the magnitude of the growing Medicare deficit.

Eliminating first-dollar coverage

The question they pose in evaluating any proposal is: Who will foot the bill for the rising costs of elderly entitlements? While the first two reforms the authors consider center on transferring part of the cost of Medicare to users in general, I find the most interesting is reform III: Controlling First-Dollar Coverage.

Evidence suggests that eliminating first-dollar coverage—healthcare coverage without a deductible—can significantly affect the demand for care in the outpatient setting.

The villain is Medigap insurance, which essentially removes all deductibles and copays, Medicare's primary cost-control mechanisms. By doing so, it opens the floodgates for profligate healthcare spending. Interestingly, the authors cite a RAND study that found no significant difference in health outcomes relative to high or low spending patterns.

Although imposing No-First-Dollar Medicare would have an "immediate and lasting impact on the level of healthcare expenditures," the authors write, they also recognize that in order to truly address the systemic ills of Medicare, "we must find a way for the working generation to pay for most of their retirement consumption while they are still working."

To that end, the authors revisit a reform they proposed in an earlier book (The Economics of Medicare Reform, 2000), ie, prepaying Medicare. In its simplest form, prepaid health insurance involves paying an annual premium throughout one's pre-retirement years that secures healthcare coverage during retirement.

"Prepaying Medicare can also result in higher national saving than does the current generational-transfer financing arrangement," the authors write, and, combined with a sound cost-sharing plan, prepayment would lead to a better healthcare market "directed more by consumer choices and less by other means of allocating the level and quantity of care consumers receive."

Rettenmaier and Saving give us a timely book rendered with great clarity; it speaks to the underlying economics of human nature and offers sound advice. The Diagnosis and Treatment of Medicare is a must read for anyone interested in the looming Medicare crisis and should be required reading for the multitude of people currently running for president and for all 535 members of Congress.

[Editor's note: In 2006, President Bush appointed Dr. Saving for a second term as a trustee of the Social Security and Medicare Trust Funds.]