The Monster Is Back

Volume III, Number 14 November 3, 1997

Back in 1984, HHS Secretary Margaret Heckler, impressed by the cost savings from a major reform of Medicare's payment system, concluded that America had "broken the back of the health-care inflation monster." We hadn't, of course: Costs soon surged again. Over the last few years, many politicians have been impressed by the flattening cost trend that has accompanied the shift to managed care-and have concluded that America's health-care cost problem is solving itself.

But once again, the optimism turns out to be premature. As a timely new study by the National Coalition on Health Care documents, costs, after slowing for a while in the mid-1990s, are again accelerating. Let deficit watchers be forewarned: The monster is back.

No Silver Lining

To begin with, let's not overstate the recent good news. The growth rate in federal health spending has not declined much in the 1990s, and what decline did occur was in Medicaid, where rules that gave states an open pipeline to the federal Treasury were rewritten. Since 1990, real Medicare spending has risen at the rate of 7.2 percent per year, roughly the rate it rose in the 1980s.

But it is true that as the managed-care revolution swept America's workplaces, private spending growth slowed dramatically-from a real 6.2 percent per year during the 1980s to 2.1 percent per year from 1990 to 1995. To many, the revolution seems to auger a new era of limitless efficiency gains in which moderating private prices must ultimately be reflected in moderating public prices. To the extent that public prices continue to rise faster, the reasoning goes, Medicare must be over-paying providers, which in turn means that there is room for large (and painless) budget savings.

This may have been true for a while, but it won't be true much longer. According to the latest data from the Health Care Financing Administration, the growth rate in total private health-care spending again began to accelerate in 1995. Meanwhile, the cost of employer health benefits, after dropping in 1994, started rising from 1995 on, and (says the benefits firm Towers Perrin) will jump by 6 to 8 percent in 1998. Likewise, health premiums for federal employees are due to rise by 8.5 percent-which amounts to a real hike of about 6.0 percent.

In practice, the link between public and private health-care prices has never been a simple one. Throughout the 1970s and 1980s, Medicare used its market clout to shift costs to private payers. But the implicit subsidy to Medicare has declined drastically in the 1990s as private payers have become more cost-conscious. Indeed, this decline helps explain the faster growth in Medicare outlays, since the government has had to pay more simply to catch up with private prices.

Once upon a time, a rising private cost trend might have indicated that Medicare would enjoy greater scope for cost-shifting. Today, there's no silver lining. Everywhere we look in health care, from urban teaching hospitals to rural health clinics, implicit subsidies are being wrung out of the system. The competitiveness revolution of the 1990s is likely to be permanent.

A New Paradigm

That said, few health-care experts now believe we are entering an era of limitless efficiency gains. The dawning consensus is that the managed-care revolution has achieved genuine one-time cost savings-but that most of that savings has already been banked. With more "waste" now squeezed out of health care, all the underlying cost drivers-from aging to technology to rising expectations-are again kicking in. As they do, the health-care inflation monster is reawakening.

This is why CBO's and HCFA's forecasts of Medicare savings from this year's budget deal may prove to be too optimistic. This is why the task awaiting the new Medicare Commission is so daunting. And this is why we need to consider a whole new paradigm for public health spending-one in which an overall prospective budget compels us to make meaningful trade-offs between health benefits and other national priorities.


The Concord Coalition web pages were designed by Marla Parker and Krista Reymann. These pages are now maintained by Craig Cheslog. . Last updated: 6 Nov 1997