Problem: Medicare and Medicaid are price-fixing schemes in which the level of reimbursement is often too low to assure high-quality health care. The result increasingly is implicit and sometimes explicit health care rationing.

Solution: For selected illnesses and conditions, Medicare and Medicaid patients should have the right to circumvent the normal reimbursement rules in ways that empower the patients and make them full participants in the medical marketplace.

Discussion: In virtually every state in the nation, the people who matter least in the construction of health care programs for the poor are poor people. Far from empowering the indigent and giving them buying power in the medical marketplace, the health care poverty industry consists of relationships between large bureaucracies in which poor patients are an excuse for the transfers of large sums of money.

The Medicaid program in many states pays about half as much as other insurers for comparable services. This practice by itself is not bad. It means that Medicaid patients may have to wait until a hospital bed is available in order to obtain elective surgery. In return for waiting, they receive medical care for free. What is bad is that Medicaid patients have no input whatever into the terms of the discount or the conditions under which they receive surgery, and they have increasingly fewer options in the market for any medical service The reason is that Medicaid patients are not the principal clients of the medical community; the Medicaid bureaucracy is. The type of medical service Medicaid patients receive is often dictated by tile amount the Medicaid bureaucracy will pay. Patients are forbidden to add to this amount in order to purchase higher quality service.

Nationwide, "good" doctors increasingly will not see Medicaid patients, especially for prenatal care. Doctors who do see them all too often practice "revolving door medicine" in which the objective is to service patients as quickly as possible and promptly submit reimbursement forms to Medicaid. To make matters worse, state laws generally prohibit nurse practitioners and physicians' assistants (including people who gave medical care to our soldiers in the field during the Vietnam War) from providing primary care services to low-income patients. The result has been a general deterioration in the quality of care Medicaid patients receive. In some places, outright rationing schemes have been installed – schemes constructed by the health care bureaucracy, not by the patients themselves.

As an initial step toward empowering patients and dismantling the Medicaid bureaucracy, we should identify areas in which the normal reimbursement rules should be suspended. Pregnant women on Medicaid, for example, should have an account to draw on for prenatal care. They should be able to add personal funds to the funds in this account, negotiate prices and pay any amount they choose in order to purchase prenatal care from any physician in the medical marketplace.

A similar problem is occurring under Medicare. Medicare's DRG system for reimbursing hospitals is not structured so that government is simply one more buyer in a competitive market. Instead, the DRG system is a price-fixing scheme in which the government is attempting to create an artificial market. DRG reimbursement prices do much more than limit the amount that government will pay. Medicare literally fixes the price of services rendered, independent of conditions of supply and demand. For example, hospitals are forbidden to charge more than the DRG price, even if patients are willing to pay more. Hospitals also are forbidden to lower their prices by giving rebates to patients who use their services. Moreover, current plans are to move to a single, national rate of reimbursement, ignoring differences in local conditions. This is comparable to attempting to establish one uniform room rate for all the nation's hotels.

The attempt to establish an artificial market creates perverse incentives for providers, which leads to adverse health effects for patients and may even increase health care costs. At the most basic level, two mistakes can occur in any price-fixing scheme. Either the price can be set too high, or the price can be set too low. In the former case, the system encourages too many medical procedures, as was the case under pure cost-plus reimbursement. In the latter case, the system encourages too few.

Although the DRG system pays one fixed price for treatment of a specific condition, the actual cost to hospitals of delivering medical care can vary enormously, depending on the patient. Within a single DRG category in 1984, the cost of care ranged from a' low of $5,500 to a high of $200,000. In "heart failure and shock," the DRG with the highest volume of cases, two-thirds of the patients that year cost hospitals less than $4,000, whereas 7 percent of the patients cost hospitals more than $100,000. [38]

In principle, the DRG price covers the average cost of treatment for hospitals which treat a wide variety of patients. But it is unlikely that any particular hospital will have an "average" case load. Clearly, survival in the hospital marketplace in this system means trying to attract below-average-cost patients and trying to avoid above-average-cost patients.

Who are the high-cost patients? The high-cost patients are the sickest patients, and more often than not these patients come from low-income families and are nonwhite. For example, black and Hispanic patients have a greater severity of illness, a longer length of hospital stay and greater hospital costs than white patients, on the average. [39]

Among elderly patients, the "young" elderly are usually much less expensive to treat than the "old" elderly. For example, a study of orthopedic surgical patients found that the average cost of treatment rises considerably with the age of the patient, even though the DRG price is the same for all of them. Among patients over the age of 75, hospitals on the average lose from $3,000 to $5,000 per patient for orthopedic surgery. [40]

There is increasing evidence that hospitals are responding to the financial initiatives created by the DRG system. Thus hospitals give care readily and quickly to the "profitable" Medicare patients while they give care slowly and reluctantly ( and often at a lower level of quality) to the "unprofitable" Medicare patients. This is especially true in the area of medical technology.

Once Medicare identified the DRG categories and the DRG prices, a reimbursement system was put in place. Medical technology, however, is rapidly changing, with new inventions and innovations coming on the market every day. Any technological advance which is cost-reducing causes no problem. By using the technology, hospitals can make a bigger profit- If the new technology causes treatment costs to rise, however, the incentives are entirely different. Unless Medicare raises the DRG price to cover the increased costs, the hospital will not be able to afford to use it or, if the technology is used, it may be restricted to lower-cost patients. Administrative changes in Medicare's DRG prices are made slowly, however, and may not be made at all. As a result, a great many technological innovations are being rationed to Medicare patients.

Even when Medicare recognizes that an expensive technological device should be used,it will often combine patients who need the device with patients who do not in the same DRG category and pay an average DRG price. Hospitals that have an above-average number of patients who need the device will be unable to provide it to all their patients. For example, in 1984, there were 21 DRG categories that combined patients in this way. In 18 of the 21 categories, the DRG payment was well below the average hospital cost of providing the device. In more than half the cases, Medicare patients did not receive the device. [41]

An example of the rationing of medical technology is hearing implants. [42] Hearing loss is the most prevalent chronic disability in the United States. It affects 30 percent of people over age 65 and 50 percent of people over age 85. Fortunately, a remarkable innovation – cochlear hearing implants – with the ability to substantially improve hearing came on the market in 1978. The innovation prompted a congratulatory letter from President Reagan to the 3M Company. manufacturer of the device, and the device won fairly prompt endorsements from the American Medical Association and the American Academy of Otolaryngology – Head and Neck Surgery. Yet, more than a decade later, most Medicare patients still cannot get a cochlear implant. In 1987, for example, Medicare reimbursed hospitals for only 69 implants.

Part of the problem is normal bureaucratic delay. But a bigger problem is the unwillingness of Medicare to pay a DRG price that covers the cost of the implant – a policy undoubtedly influenced by pressures to hold down spending. On the average, hospitals where implants are performed lose between $3,000 and $5,000 per patient. One other side effect of this policy is that three of the five companies that developed and marketed the implant in the United States have now dropped out of the market, and the 3M Company has now dropped its plans to develop a new and improved implant – one which would give elderly patients even greater hearing capabilities.

The solution proposed here is only a partial step toward a more complete reform of the Medicaid and Medicare programs. The ultimate goal should be to allow the beneficiaries to negotiate all prices in a market in which the beneficiaries, rather than third-party bureaucracies, would become the principal buyers of health care. We should continue the practice of limiting the amount that taxpayers pay. But we should allow the market to determine the price and quality of health care.

TABLE 6

DIAGNOSTIC COSTS FOR MEDICARE PATIENTS BY RACE1

Race

Cost Per Patient2

White

$656

Hispanic

$753

Black

$809

1Based on admissions to Long Island Jewish Medical Center during 1985-1987.

2Adjusted for DRG Weight Index.

Source: Eric Munoz, Eugenio Barrios, Houston Johnson, Jonathan Goldstein, Morton Slater and Leslie Wise, "Race, DRGs, and the Consumption of Hospital Resources," Health Affairs, Spring 1989 p. 187.