Mission Impossible: ObamaCare’s Planned Cuts in Medicare Spending

Before Congress passed a law  nationalizing the health care system, President Obama used to say that the government would save money by implementing the principle that if the “red pill” works just as well as the “blue pill,” but costs half as much, patients should take the red pill.

This dangerously simplistic notion is incorporated in the Independent Payment Advisory Board (IPAB), a creation of the Patient Protection and Affordable Care Act (PPACA). IPAB, governed by a 15-person board of presidential appointees, targets certain Medicare spending, and attempts to take it away from congressional oversight. As stated by an advocate: “A common theme in the health care reform debate in recent years has been the need for a board of impartial experts to oversee the health care system. . . Congress is too driven by special-interest politics and too limited in expertise and vision to control costs.” Much of the section of PPACA that institutes IPAB describes the byzantine rules and procedures that try to limit Congress’ ability to derail IPAB’s recommendations.

IPAB’s authority is triggered when Medicare’s future spending is anticipated to increase faster than a target rate. The target growth rate through 2018 is the average of the change in the Consumer Price Index (CPI) and the medical-care component of the CPI. For 2018 and later, the target rate is real Gross Domestic Product (GDP) per capita plus 1 percentage point.

For every year the projected Medicare growth rate exceeds the target, the IPAB will put forward proposals to cut spending by a certain percentage that increases to 1.5 percent of total Medicare spending (after 2017) or the projected excess, whichever is less. But IPAB may only address some providers. Before 2020, it may not target providers for which rates are already cut by ObamaCare — primarily hospitals.

For the past 25 years (1984 through 2009) medical inflation has increased at a faster rate than CPI in every year except 1997, when both increased by a rate slightly more than 2 percent (see page 2 of this report). From 1985 through 2009, Medicare spending per enrollee has increased by an average of 6.7 percent annually, whereas CPI has increased by 2.9 percent, its medical-care component by 5.1 percent, and GDP per capita by 4.1 percent (see page 2 of this report).

So, if history is a guide, the first spending target would be 4 percent (the average of 2.9 percent and 5.1 percent), and we should expect the increase in Medicare spending to be fully two-thirds above target, or 2.7 percentage points. But official estimates of IPAB’s consequences are implausibly small.

The Table below shows the effect IPAB is supposed to have in the years to come. Column A reports estimated Medicare spending over this decade (with Obama Care reforms). Column B reports the amount of money saved by IPAB’s actions. The remaining columns show how the Obama Care estimates of Medicare spending redistribution are likely to be undermined.

Source: Authors’ calculations based on Richard S. Foster, Estimated Financial Effects of the “Patient Protection and Affordable Care Act”, as Amended; National Health Expenditure Projections 2009-2019; 2010 Annual Report of the Boards of Trustees of the Federal Hospital Insurance and Federal Supplemental Medical Insurance Trust Funds; The Budget and Economic Outlook: Fiscal Years 2011 to 2021; March 2011 Medicare Baseline.

First, ObamaCare assumes dramatic cuts to physicians’ fees, just like Congress assumed pre-ObamaCare. The Sustainable Growth Rate (SGR), introduced in 1997, was meant to constrain Medicare’s physicians’ fee schedule by the growth in GDP, instead of matching physicians’ costs.  Because the cost of practicing medicine has increased faster than GDP for almost a decade, pre-ObamaCare law mandated cuts to physicians’ fees.

Beginning in 2003, however, Congress has “fixed” the SGR to prevent a cut 13 times — renewing the “fix,” once every seven or eight months on the average. President Obama signed a fix of zero in December 2010, which runs through the end of 2011.

Official estimates of Medicare spending assume that last December’s fix was the last one. This is unrealistic. Last December’s fix passed the U.S. Senate unanimously and passed the House of Representatives by a vote of 409-2. If the SGR is not “fixed” again, the fees Medicare pays physicians will drop 28 percent next January (according this CBO estimate, p. 69). If IPAB begins recommending cuts to the physicians’ fee schedule, it is not plausible that Congress will obey the rules attempting to constrain it, but will restore the 2010 fee schedule, at least. To reflect this more realistic scenario, Columns C and D of Table 1 display the fix through 2019 and a correspondingly higher estimate of total Medicare spending.

ObamaCare also introduces some new magical thinking into Medicare estimates. Section 3401 of PPACA imposes various measurements of “value” and “productivity” on providers such as hospitals and other providers, which are supposed to save more than $200 billion in this decade. Column E of Table 1 displays the estimated savings from these measures. The most significant of these measures are cuts to the Inpatient Prospective Payment System (IPPS), a complex set of calculations Medicare uses to pay hospitals (See Column F).

It is highly unlikely that all these cuts will take effect. To be sure, these are hard targets — but the SGR is also a hard target. IPAB cannot recommend serious cuts to hospitals or hospices in the intermediate term. Beyond that point, hospitals enjoy similar political advantages as physicians. They operate in every congressional district and can therefore mount a credible “all hands on deck” lobbying effort when their revenues are threatened. Because they also spend a lot on supplies and services locally, they enjoy an even stronger natural coalition of allies in congressional districts than physicians do.

It seems likely that hospitals will be able to override cuts to the IPPS. The total of the fix to the physicians’ fee schedule plus an IPPI override is shown in Column G, and the resulting total estimated Medicare spending in Column H.

Under this scenario, IPAB has to carry a lot more weight than officially anticipated. In 2019, Medicare spending will be $75 billion higher than officially estimated — or 7.5 times greater than IPAB is called upon to save in the official estimate. And IPAB’s only real targets are Medicare Advantage plans, skilled nursing facilities, home health, dialysis, ambulance, ambulatory surgical centers, durable medical equipment (DME), and prescription drugs. Although Medicare Advantage is a big program, further significant cuts are not really possible, because ObamaCare has already subjected Medicare Advantage to $145 billion in cuts this decade.

That leaves prescription drugs as IPAB’s central target. Prescription drugs only account for 12 percent of Medicare spending. According to official estimates, this will increase to 17 percent by 2019, or 15 percent according to my scenario. And prescription use is increasingly dominated by generic drugs, often available at chain pharmacies for $10 or less for a month’s supply. According to a recent report, generics now account for about eight out of 10 retail prescriptions filled. It’s not possible that IPAB can find much more savings there. Innovative drugs, that is, branded drugs made available within the last two years, only accounted for $4 billion of U.S. prescription spending last year. And that is for all prescriptions dispensed. Medicare might account for a third of this spending. IPAB could deny coverage of every innovative drug every year and not come close to achieving the savings anticipated by either the official estimate or the scenario described in this analysis.

So, where will the savings come from? Rationing has to be the answer, despite politicians’ unwillingness to admit it.

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