RETIREMENT RESEARCH October 2018, Number 18-19 AN UPDATE ON MEDICARE’S FINANCES By Alicia H. Munnell and Anqi Chen* Introduction The headline from the 2018 Medicare Trustees Report extraordinarily high health care costs; its out-of-pocket was that the program’s Hospital Insurance trust fund expenses absorb a large and growing share of Social will run out of money in 2026, three years earlier than Security benefits; and it has some serious gaps in was estimated last year. That headline suggests that protection. Medicare is facing increasing financial troubles. In fact, the outlook for program costs is considerably more favorable than it was a decade ago, and that The Financing of Medicare picture persists even under an alternative scenario in the Trustees Report that assumes that Congress phases Medicare is the largest public health program in the out some of the cost controls in recent legislation. United States. It covers virtually all persons ages 65 This brief summarizes the current state of Medicare’s and older and most disabled citizens. Since its enact- finances. ment in 1965, it has contributed substantially to the The discussion proceeds as follows. The first health and well-being of older and disabled Ameri- section provides a brief overview of Medicare financ- cans. Medicare operates with relatively low adminis- ing. The second section describes the 2018 Trustees trative costs and enjoys widespread public support. Report projections that use current-law assumptions. Medicare is composed of two programs (see Fig- The third section explains why observers think some ure 1, on the next page). The first program is Part A, of the cost control provisions in recent legislation are Hospital Insurance (HI), which covers inpatient hos- not sustainable. The fourth section compares the pital services, skilled nursing facilities, home health current-law projections to an alternative scenario pre- care, and hospice care. HI is financed primarily by a pared by Medicare’s Office of the Actuary. The fifth 2.9-percent payroll tax, shared equally by employers section tries to put the relatively sanguine assessment and employees. The HI trust fund is the component of Medicare finances in perspective. The final section that is projected to be depleted three years earlier than concludes that while Medicare’s finances – even un- estimated in the 2017 Trustees Report.1 The second der the alternative assumptions – have been improv- and larger program is Supplementary Medical Insur- ing considerably, Medicare operates in a country with ance (SMI), which consists of two separate accounts: * Alicia H. Munnell is director of the Center for Retirement Research at Boston College (CRR) and the Peter F. Drucker Professor of Management Sciences at Boston College’s Carroll School of Management. Anqi Chen is assistant director of savings research at the CRR. The authors would like to thank Stephen Goss, Daniel Muldoon, and John Shatto for helpful comments. 2 Center for Retirement Research Figure 1. Historical and Projected Medicare and 2018 Trustees Reports, projected long-term costs Expenditures and Non-Interest Income, for Medicare – HI and SMI combined – declined Percentage of GDP, 1970-2092 dramatically (see Figure 2). 8% Total expenditures Figure 2. Projected Medicare Expenditures as 6% a Percentage of GDP for Select Years from the Deficit Payroll taxes HI 2009 and 2018 Trustees Reports Tax on OASDI benefits 4% 15% 2009 General revenue 2018 11.2% 2% SMI State transfer and drug fees 10% Premiums 8.0% 0% 1970 1990 2010 2030 2050 2070 2090 6.2% 5.9% Source: Centers for Medicare & Medicaid Services (CMS) 5% 4.5% 3.9% Medicare Trustees Report (2018). Part B, which covers physician and outpatient hospital 0% services, and Part D, which was enacted in 2003 2020 2040 2080 and covers prescription drugs.2 SMI is adequately Sources: Medicare Trustees Reports (2009 and 2018). financed for the indefinite future because the law pro- vides for general revenues and participant premiums to meet the next year’s expected costs. Of course, an In terms of the HI program – the component increasing claim on general revenues puts pressure of Medicare financed by the payroll tax – the lower on the federal budget and rising SMI premiums place projected costs have led to substantially smaller 75- a growing burden on beneficiaries. year deficits. The 2018 Medicare HI deficit of 0.8 percent of taxable payroll is slightly higher than the Medicare Current-Law year before, but well within the post-2009 range (see Figure 3). Projections For a number of years, the Medicare current-law Figure 3. Projected Medicare HI 75-year Deficit projections have assumed a substantial reduction in as a Percentage of Taxable Payroll, 2009-2018 the growth rate of per capita health expenditures rela- tive to historical experience. It is not clear the extent 5% to which the slowdown in spending growth since 2008 reflects the impact of the Great Recession or 4% 3.9% subsequent legislation that may be making the health care sector more efficient. The Affordable Care Act 3% (ACA), passed in 2010, contained roughly 165 provi- sions aimed at reducing costs, increasing revenues, eliminating fraud and waste, and developing research 2% and technological enhancements. More recently, the 1.4% 1.1% Medicare Access and CHIP Reauthorization Act of 1% 0.8% 0.9% 0.7% 0.8% 0.7% 0.7% 0.6% 2015 (MACRA) revised the system for paying physi- cians. Regardless of the reason, between the 2009 0% 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Sources: Medicare Trustees Reports (2009-2018). Issue in Brief 3 As noted above, the HI trust fund is projected to inadequate reimbursement rates for Medicare provid- deplete its reserves in 2026, three years earlier than ers, Congress may find it necessary to curtail the pay- projected last year (see Figure 4). In fact, this deple- ment reductions.4 To account for the uncertain future tion date moves around from year to year because HI of the cost control measures, the Trustees also ask the trust fund reserves are small relative to costs, which Medicare actuaries to produce alternative projections.5 Figure 4. Projected Medicare HI Trust Fund Current-Law vs. Alternative Exhaustion, By Year of Trustees Report, 2005-2018 Assumptions Years until trust fund depletion 2005 15 2020 The major difference between the current-law and al- 2006 12 2018 ternative projections relates to updating the amounts 2007 12 2019 to be paid to hospitals and physicians. The concern 2008 11 2019 is that prices can only be reduced so far before they Trustees report year 2009 8 2017 2010 19 2029 become unreasonably low and jeopardize Medicare ACA 2011 13 2024 beneficiaries’ access to mainstream medical care, 2012 12 2024 as health care providers stop seeing Medicare pa- 2013 13 2026 tients. The illustrative projections are based on the 2014 16 2030 2015 15 2030 assumption that Congress modifies two provisions MACRA 2016 12 2028 by: 1) phasing down the productivity adjustments 2017 12 2029 prescribed for payments for hospital (and other 2018 BBA 2018 8 2026 non-physician) services; and 2) increasing physician 2000 2010 2020 2030 2040 payment rates. Projected trust fund exhaustion year Sources: Medicare Trustees Reports (2005-2018). Productivity Adjustments for Hospital Services The hospital services covered by Medicare require makes the date sensitive to even relatively modest annual payment increases. The ACA introduced changes in economic and programmatic assump- cost-saving measures that would reduce annual tions.3 The ACA pushed the depletion date out to increases, which are based on input prices, by the 2029 and the MACRA maintained that extension. In percentage increase in the 10-year moving average of contrast, the Bipartisan Budget Act of 2018, which economy-wide productivity.6 The goal was to create overrides some of the cost-saving provisions that were strong incentives for health care providers to improve deemed unsustainable, caused the date to move up. efficiency. In the 2018 Trustees Report, economy- Depletion of the trust fund reserves is an action-forc- wide productivity is estimated to increase by 1.1 ing event because, after this point, scheduled payroll percent per year. However, health services are very taxes are projected to cover only 91 percent of sched- labor intensive, so productivity gains in this sector uled benefits. But the date tells observers little about are expected to be much smaller.7 As a result, the the finances of the overall Medicare program because reductions in compensation will exceed productivity the trust fund is small compared to HI expenditures gains and cut into providers’ earnings. Eventually, and HI is only about a third of the Medicare system. Medicare payment rates for inpatient hospital services The Trustees’ main projections are based on cur- would fall from about 60 percent of private insurance rent law and, therefore, include the impact of cost today to just 39 percent by 2092 (see Figure 5, on the control provisions in the ACA and the MACRA. To next page). the extent that these provisions end up producing 4 Center for Retirement Research Figure 5. Illustrative Medicare Prices under Cur- The question is whether the current payment rent Law Relative to Private Health Insurance system will be sustainable in the long run. Specifi- Prices for Inpatient Hospital Services, 1990-2092 cally, Medicare payment rates are not expected to keep pace with the increase in physician costs, which are 125% projected to average 2.2 percent annually from 2028- 2042, according to the actuaries’ Medicare Economic 100% Index.12 As a result, like Medicare hospital payments, Medicare physician payments would fall far below 75% private health insurance payment rates (see Figure 6). 50% Figure 6. Illustrative Medicare Prices under Cur- rent Law Relative to Private Health Insurance 25% Private Prices for Physician Services, 2000-2092 Medicare 125% 0% 1990 2000 2010 2020 2030 2040 2050 2060 2070 2080 100% Note: Illustration assumes that private insurance prices are not affected by Medicare payment rates. Private Source: Shatto and Clemens (2018). 75% Medicare 50% Over time, such large reductions in compensation would cause providers to either stop serving Medicare 25% patients or shift some of the costs to non-Medicare patients.8 Thus, the alternative scenario assumes that 0% payment updates will reflect health care productivity 2000 2010 2020 2030 2040 2050 2060 2070 2080 2090 rather than economy-wide productivity. Note: Illustration assumes that private insurance prices are Physician Payments not affected by Medicare payment rates. Source: Shatto and Clemens (2018). As with hospitals, physicians serving Medicare pa- tients also typically receive annual payment updates. Since April 2015, these updates have been specified Therefore, the alternative projections assume that by MACRA, which prevented an immediate 21-per- Congress will modify the reductions in the future to cent cut in Medicare physician rates and eliminated help ensure that Medicare beneficiaries continue to the need for annual legislative overrides.9 The new have sufficient access to health care services. MACRA payment system emphasizes measuring and rewarding the quality, rather than quantity, of health services. MACRA set the physician fee update to a Comparing the Current-Law 0.5-percent increase in 2019. However, the Biparti- san Budget Act of 2018 reduced this amount to 0.25 and Alternative Projections percent, while keeping future adjustments the same. That is, fee reimbursements are scheduled to re- Since current-law payments could end up being main unchanged for 2020-2025, with modest annual inadequate and reduce access to health services, the increases (less than 1 percent) beginning again in alternative projections assume that Medicare price 2026.10 In addition to the standard fee reimburse- updates will eventually equal those for private health ments, MACRA also provides a temporary sweetener plans. The alternative assumptions pertain only to HI in the form of incentive payments for certain groups and Part B of the SMI program; Part D, which covers of physicians; these payments expire in 2025.11 prescription drugs, is unaffected. Issue in Brief 5 HI Program revenues as a percentage of GDP are the same under the two scenarios, the projected HI deficit under the Productivity adjustments play an important role in alternative scenario is 1.3 percentage points of GDP projected HI costs. The alternative scenario assumes higher than under current law. that the ACA productivity adjustments will be phased out beginning in 2028.13 While HI cost projections in SMI Program: Part B earlier years are only slightly higher than current-law projections, they increase substantially by the end of In addition to phasing out the ACA productivity ad- the 75-year period (see Figure 7). justments beginning in 2028, the alternative scenario for SMI-Part B assumes: 1) the physician payments transition from current-law updates to the growth in Figure 7. Historical and Projected HI Income and the Medicare Economic Index; and 2) the incentive Costs as a Percentage of Taxable Payroll, 1990-2090 payments for physician groups will continue after 2025. Expenditures for SMI under the two sets of 8% assumptions are shown in Table 2. By 2092, SMI expenditures under the alternative scenario are pro- jected to be 1.5 percentage points of GDP higher than 6% under current law. 4% Table 2. Projected SMI-Part B Expenditures as a Percentage of GDP, Selected Years 2% Alternative cost rate Year Current law Alternative Current law cost rate 2020 1.8% 1.8% Income rate 2040 2.9 3.0 0% 1990 2010 2030 2050 2070 2090 2060 2.8 3.5 2080 2.8 4.0 Source: Medicare Trustees Report (2018). 2092 2.8 4.3 Source: Shatto and Clemens (2018). Another way to compare the two projections is ex- penditures as a percentage of GDP. Again, as shown in Table 1, the differences are small in the short run but become substantial by 2092, when current-law Total Medicare spending equals 2.2 percent of GDP compared to 3.5 Alternative projections for total Medicare expenses, percent of GDP under the alternative scenario. Since which include all the payment adjustments for HI and Part B discussed above, show expenditures equal to 8.9 percent of GDP in 2092 compared to only 6.2 Table 1. Projected HI Expenditures as a percent under current law. Percentage of GDP, Selected Years To provide perspective on how the projections have changed over the past decade, Figure 8 (on the Year Current law Alternative next page) shows total Medicare spending projections 2020 1.6% 1.6% from each Trustees Report over the 2010-2018 period 2040 2.2 2.3 under the current-law assumptions and the alterna- 2060 2.2 2.7 tive scenario. The current-law projections have remained within 2080 2.3 3.3 a relatively narrow band, with the 2018 projections 2092 2.2 3.5 roughly in the middle of that band. In contrast, the Source: Shatto and Clemens (2018). alternative projections declined noticeably until 2015, 6 Center for Retirement Research Figure 8. Historical and Projected Medicare Medicare Spending in Expenditures as a Percentage of GDP from 2010- 2018 for the 75-Year Projection Period Perspective 12% 2010 While the news seems relatively good on the Medi- Hundreds care front, several comments are necessary. First, 10% Medicare is operating in an expensive environment. Alternative 2018 U.S. health care costs as a percentage of GDP are the 8% highest in the developed world and nearly twice as 2018 high as the average of the countries in the Organiza- 6% tion for Economic Cooperation and Development Current law (OECD) (see Figure 10). Differences in U.S. health 4% costs are driven by relatively high salaries for doc- tors, high drug prices, high administrative costs, and 2% greater usage of certain procedures.14 These broader market pressures make Medicare an expensive pro- 0% 2009 2010 2020 2030 2040 2050 2060 2070 2080 gram. It also means that the only real way to control Medicare costs is to get national health care spending Source: Shatto and Clemens (2010-2018). under control. at which point they appear to have stabilized. Thus, Figure 10. Health Care Expenditures as a the gap between the two sets of projections appears to Percentage of GDP, OECD Countries, 2017 have stabilized as well. Finally, even using the alternative assumptions, 20% the projected Medicare costs are lower in the future 17.2% than they were projected to be in 2009 (see Figure 9). 15% Figure 9. Historical and Projected Medicare 10% 8.9% Expenditures as a Percentage of GDP, 2010-2018 12% 5% Hundreds 2009 (pre-ACA) 10% 2018 Alternative 2018 Current law 0% 8% United States OECD average 6% Source: OECD Health Statistics (2018). 4% Second, because Medicare is expensive, the out-of- 2% pocket costs that beneficiaries pay through premiums, deductibles, coinsurance, and copayments constitute 0% a significant burden for the typical household. As 2009 2010 2020 2030 2040 2050 2060 2070 2080 shown in Figure 11 (on the next page), these costs now amount to about 25 percent of the average Social Source: Shatto and Clemens (2010 and 2018). Security benefit and, under the alternative assump- tions, will eventually exceed 40 percent. Issue in Brief 7 Figure 11. Historical and Projected Total SMI cility care, or physician costs. As a result, people with Out-Of-Pocket Expenses as a Percentage of long and complicated illnesses could incur tens of Average Social Security Benefit, 1980-2080 thousands of dollars in out-of-pocket expenses. In ad- dition, participants are not covered for dental services, 80% eye glasses, and hearing aids. Thus, the challenge is 2009 (pre-ACA) 2018 Alternative not only to control the costs of the benefits currently 2018 Current law provided by Medicare, but also to create some room 60% for improvement in the benefit package. 40% Conclusion The headline from the 2018 Medicare Trustees Report 20% was that the program’s HI Trust Fund was expected to deplete its reserves three years earlier than esti- mated in 2017, implying that Medicare faces increas- 0% ing financial troubles. Annual fluctuations in the 1980 2000 2020 2040 2060 2080 depletion year for the HI trust fund, however, provide Source: Authors’ calculations from Medicare Trustees Reports only a limited view of Medicare’s finances. In fact, (2009 and 2018). the outlook for Medicare costs is considerably more favorable than it was a decade ago, and that picture persists even under the alternative projections that assume Congress phases out some of the cost con- Finally, discussions about Medicare are often trols in recent legislation. That said, Medicare does framed as if the program were excessively gener- face significant financing challenges: it operates in a ous, implying that the solution is to cut back. In country with extraordinarily high health care costs; its fact, Medicare’s coverage is less comprehensive than out-of-pocket expenses take a large and growing share most private sector insurance plans. For example, of Social Security benefits; and it has some serious Medicare provides only limited mental health benefits gaps in protection. and does not place an upper-bound on cost-sharing responsibilities for hospital stays, skilled nursing fa- 8 Center for Retirement Research Endnotes 1 As shown in Figure 1, payroll tax revenues have 8 The underlying assumption behind the increasing risen steadily as a percentage of GDP due to increases gap in prices is that Medicare would have no effect on in the HI payroll tax rate and in the limit on taxable private health insurance prices. Some argue, howev- earnings (which was eliminated in 1994). The Af- er, that Medicare costs do influence prices for health fordable Care Act increased HI trust fund revenues care services in the private market (see Frakt, 2014, with a 0.9-percent tax on earnings for individuals for a summary of related literature). earning more than $200,000 ($250,000 for married couples). These thresholds are not indexed for price 9 The annual override (known as the “Doc Fix’) arose or wage growth so that, over time, a growing propor- from the Sustainable Growth Rate (SGR) reimburse- tion of workers will become subject to the additional ment formula established in 1997. The SGR set 0.9-percent tax. Even these rising revenues, however, target levels for Medicare expenditures. If physicians will not be sufficient to cover HI outlays, and the did not exceed these targets, they would receive mod- deficit remains a steady percentage of GDP. The ACA est pay increases. If they did exceed the targets, their also specifies that individuals with incomes above reimbursement rates would be cut. In fact, physi- $200,000 per year and couples above $250,000 pay an cians continuously exceeded the targets, but every additional Medicare contribution of 3.8 percent on year Congress postponed the cuts. some or all of their non-work income (such as invest- ment earnings), but the revenues from this tax are not 10 Starting in 2026, MACRA will have two payment allocated to Medicare. rates: 1) for qualifying providers paid through an advanced alternative payment model, payment rates 2 About 75 percent of the costs of Parts B and D are will be increased by 0.75 percent each year; and 2) paid from the government’s general revenues. The payment rates for all other providers will be increased other 25 percent is paid from monthly premiums each year by 0.25 percent. For more details, see Blon- charged to beneficiaries, which typically are deducted iarz and Glass (2015). from Social Security benefits before they are sent to the recipient. 11 The incentive payments include 5-percent annual bonuses provided to physicians who are qualified 3 The current HI trust fund covers about one year of providers in Medicare’s advanced alternative payment expenditures. model and a pool of money to reward physicians in the separate merit-based incentive payment system 4 For example, the Balanced Budget Act of 2018 who display “exceptional performance.” repealed the ACA’s Independent Payment Advisory Board, which was supposed to propose reductions 12 The Medicare Economic Index reflects price in Medicare spending if cost growth surpassed GDP changes for all components of physician services. growth by more than one percentage point. 13 The alternative projections assume that produc- 5 The Trustees note that the use of an alternative tivity adjustments will be reduced by 0.4 percent scenario for analysis should not be construed as an annually until Medicare price updates are in line with endorsement by either the Trustees or the actuaries. those for private health plans. 6 These price indices are determined by measur- 14 For example, see Papanicolas, Woskie, and Jha ing the increase in the prices of goods and services a (2018). provider must pay to deliver patient care. 7 In recent years, hospital productivity averaged around 0.4 percent per year, while skilled nursing facilities experienced close to zero annual productivity gains. Issue in Brief 9 References Bloniarz, Kate and David Glass. 2015. Alternative Pay- ment Models (APMs) and the Merit-Based Incentive Payment System (MIPS). Washington DC: Medi- care Payment Advisory Commission. Centers for Medicare and Medicaid Services. 2005- 2018. Annual Report of the Boards of Trustees of the Federal Hospital Insurance and Federal Supplemen- tary Medical Insurance Trust Funds. Washington, DC: U.S. Department of Health and Human Services. Frakt, Austin B. 2014. “The End of Hospital Cost Shifting and the Quest for Hospital Productivity.” Health Services Research 49(1): 1-10. Papanicolas, Irene, Liana R. Woskie, and Ashish K. Jha. 2018. “Health Care Spending in the United States and Other High-Income Countries. Journal of the American Medical Association 319(10): 1024- 1039. OECD. 2018. OECD Health Statistics. Paris, France. Available at: http://www.oecd.org/els/health-sys- tems/health-data.htm Shatto, John D. and M. Kent Clemens. 2010-2018. Projected Medicare Expenditures under an Illustrative Scenario with Alternative Payment Updates to Medi- care Providers. Washington, DC: U.S. Department of Health and Human Services. RETIREMENT RESEARCH About the Center Affiliated Institutions The mission of the Center for Retirement Research at The Brookings Institution Boston College is to produce first-class research and Syracuse University educational tools and forge a strong link between the Urban Institute academic community and decision-makers in the public and private sectors around an issue of critical impor- tance to the nation’s future. To achieve this mission, Contact Information Center for Retirement Research the Center sponsors a wide variety of research projects, Boston College transmits new findings to a broad audience, trains new Hovey House scholars, and broadens access to valuable data sources. 140 Commonwealth Avenue Since its inception in 1998, the Center has established a Chestnut Hill, MA 02467-3808 reputation as an authoritative source of information on Phone: (617) 552-1762 all major aspects of the retirement income debate. Fax: (617) 552-0191 E-mail: crr@bc.edu Website: http://crr.bc.edu The Center for Retirement Research thanks AARP, Bank of America Merrill Lynch, BlackRock, Inc., The Blackstone Group L.P., The Capital Group Companies, Inc., J.P. Morgan Asset Management, Prudential Financial, State Street, and TIAA Institute for support of this project. © 2018, by Trustees of Boston College, Center for Retirement Research. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that the authors are identified and full credit, including copyright notice, is given to Trustees of Boston College, Center for Retirement Research. The research reported herein was supported by the Center’s Partnership Program. The findings and conclusions expressed are solely those of the author and do not represent the views or policy of the partners, Boston College, or the Center for Retirement Research.