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Testimony on Long-term Future for the Medicare Program by Bruce C. Vladeck
Administrator, Health Care Financing Administration
U.S. Department of Health and Human Services

Before the Senate Finance Committee
February 12, 1997

Mr. Chairman, Members of the Committee, thank you for the opportunity to address the Committee on the long-term future for the Medicare program.

There is time for us to act to ensure the long-term solvency of the Federal Hospital Insurance Trust Fund. We are hopeful that we can find common ground with the Congress on Medicare reforms that will strengthen the HI trust fund in the short-term and provide us with sufficient time to carefully consider approaches to preserving the fund's long-term solvency. Accordingly, the President has submitted a budget that extends the solvency of the HI Trust Fund into 2007, allowing sufficient time to address the long-term financing issues of the HI Trust Fund.

Let me remind you that this past year's Trustees Report is consistent with the three previous reports. In fact, over the past 15 years, the Trustees have projected the date of insolvency to be anywhere from 5 to 17 years, and each year they recommended that Congress take action to protect the HI trust fund. Each time, the Congress and the Executive branch have been able to respond to short-term challenges, improve the short-term longevity of the HI trust fund, and ensure continued Medicare protection for beneficiaries. Addressing the long-term solvency will similarly require a collaborative effort.

In 1993, when the Clinton Administration first took office, the HI trust fund was projected to become insolvent in 1999. We immediately took action and proposed a package of Medicare savings. The resulting legislation extended the solvency of the HI trust fund for another three years. In each successive year, the President has proposed measures to further extend the solvency of the HI trust fund. I believe that this record reflects the President's unwavering commitment to ensuring that the trust fund remains solvent for both the short term and the long term.

SUMMARY OF THE 1996 TRUSTEES REPORT AND RECOMMENDATIONS

Let me begin by describing the HI trust fund and the services it supports for Medicare beneficiaries. The HI trust fund pays for inpatient hospital care, as well as expenditures for home health services, skilled nursing care, and hospice care. When Medicare was enacted it paid for hospital and post-hospital services only. Subsequent program expansions have added hospice and non-hospital related home health care. In 1995, the EH trust fund paid for $116.4 billion in services for 33 million aged and 4 million disabled beneficiaries.

The HI trust fund is financed primarily by payroll taxes. Employees contribute 1.45 percent of wages, and there is a matching contribution by employers. Self-employed individuals contribute 2.9 percent of net self-employment income. The trust fund also receives income from interest earnings on its assets, revenue from taxation of Social Security benefits, and income from Miscellaneous sources.

Medicare expenditure increases are driven by increases in enrollment, the growing complexity of medical services, changes in the volume of health care services provided, and health care inflation generally. In the future, HI trust fund expenditures are projected to rise more rapidly than trust fund revenues. Anticipated increases in the number, cost, and complexity of medical services are expected to continue to result in expenditure growth rates in excess of payroll growth. Beginning in 2010, the demographic shift that will occur with the retirement of the baby boom generation is projected to significantly exacerbate the expected imbalance between expenditures and revenues. After that point, a larger proportion of our population will be eligible for Medicare, and a correspondingly smaller percentage will be paying the taxes that support the HI trust fund. Over the 75-year long-range projection period, trust fund tax income as a percent of taxable payroll remains relatively level, while the expenditure rate rises steadily.

Supplemental Medical Insurance (SMI) or Part B covers physician services, along with outpatient hospital services, laboratory services, durable medical equipment and other miries expect. It also is required to ensure sufficient time for consideration of options to ensure long run trust fund solvency.

The second recommendation is related to Medicare's long-term financial concerns for both the HI and the SMI trust funds. The Trustees recommend the establishment of an advisory group to address long term solvency. The objective is to move toward the development and thoughtful consideration of policy options in response to this unprecedented demographic shift.

DEMOGRAPHIC CHANGES - A FUNDAMENTAL CHALLENGE

The "baby boom" generation begins to age into Medicare coverage in large numbers starting in 2010. With a drop in the ratio of active workers to retirees, scheduled payroll tax revenues cannot keep pace with expected expenditure levels.

The focus to date has been on addressing the perceived problem that Medicare costs have been increasing too rapidly and are projected to continue to do so in the future. Critics cite these projected cost increases as a deficiency of the program. In practice, however, the program is administered efficiently and we have experimented with and implemented innovative purchasing strategies where permitted by law. Administrative expenses for Medicare represent less than 2% of total program expenditures. The future cost increases associated with this program primarily reflect more beneficiaries, wage increases and inflation, and increases in the utilization and intensity of medical services. As such, a portion of the cost iries expect. It also is required to ensure sufficient time for consideration of options to ensure long run trust fund solvency.

The second recommendation is related to Medicare's long-term financial concerns for both the HI and the SMI trust funds. The Trustees recommend the establishment of an advisory group to address long term solvency. The objective is to move toward the development and thoughtful consideration of policy options in response to this unprecedented demographic shift.

DEMOGRAPHIC CHANGES - A FUNDAMENTAL CHALLENGE

The "baby boom" generation begins to age into Medicare coverage in large numbers starting in 2010. With a drop in the ratio of active workers to retirees, scheduled payroll tax revenues cannot keep pace with expected expenditure levels.

The focus to date has been on addressing the perceived problem that Medicare costs have been increasing too rapidly and are projected to continue to do so in the future. Critics cite these projected cost increases as a deficiency of the program. In practice, however, the program is administered efficiently and we have experimented with and implemented innovative purchasing strategies where permitted by law. Administrative expenses for Medicare represent less than 2% of total program expenditures. The future cost increases associated with this program primarily reflect more beneficiaries, wage increases and inflation, and increases in the utilization and intensity of medical services. As such, a portion of the cost increases are attributable to the cost of providing needed health care services. These increases should not automatically be considered a deficiency.

In addition, few analysts would suggest reducing the basic set of services covered by Medicare. In comparison to other health care plans, Medicare's coverage is already modest, and only pays for about 55 percent of the health care costs of the elderly. Furthermore, it should be noted that for most of Medicare's history, the growth in per-person benefit spending has been similar to or a little slower than that of the private sector. The average annual Medicare increase per person during 1969-1995, for example, was one percentage point lower than for the private sector.

Also, the high projected cost of entitlement programs reflects the growth in economic and health security needs that will arise as the population ages in the future. The demographic changes that will occur as the post-World War II "baby boom" generation ages are well known, having been discussed at great length over the last 20 years. Past variation in birth rates, together with steady improvement in life expectancy, starting in about 2010 will result in major increases in the number of older persons relative to those at working ages. Currently about four workers paying HI taxes support each HI enrollee. This ratio will begin to decline rapidly early in the next century. By the middle of that century, only about two workers will support each enrollee. Moreover, contrary to intuition, the ratio does not return to current levels once the subsequent "baby bust" generation reaches retirement age. As a result of continuing improvements in life expectancy, the ratio is expected to stay at the higher level and to gradually increase over time.

The major underlying problem facing us is that this country's future elderly will consume health care services that will need to be financed in some way. If Medicare is not available to pay for those services, some other financing source will need to be found, or people will go without needed services. Any Medicare "solution" must make economic and social sense in a society unlike any that has ever been encountered in human experience--a society with more old people, comparatively fewer children and adolescents, and with life expectancy at size 65 measured in decades.

The long-term solvency problems of the Hospital Insurance trust fund arise from profound demographic changes which will create needs that must be met whether or not they are met through Medicare.

Any effort to address the future of Medicare also needs to recognize that, as noted previously, Medicare currently pays only a little more than half of the health care costs of the elderly, with the remainder paid by individual beneficiaries, or their individual or employer-based insurers, or Medicaid. Any proposals to address Medicare solvency need to consider the impacts on those other health care financing streams. For example, increasing the eligibility age for Medicare would likely increase employer liabilities for their retirees and state Medicaid expenditures for dual enrollees. We also need to assess the impact on broader economic security for the elderly and disabled -- of which entitlements are only one of three "legs," the other two being pensions and individual savings. We need to spell out how difficult it is to privatize the financing of health care for Medicare beneficiaries. It is very difficult to construct a private system that is able to address such issues as benefit adequacy for lower-income workers. In addition, it would be extremely burdensome on current workers to attempt to "forward fund" these obligations while covering current obligations.

The demographic trends that create a financing crisis in Medicare and Social Security will also have profound macroeconomic effects. The same demographic changes that increase Medicare outlays will produce enormous changes in the labor market, while reducing the social burden of caring for dependent children. Labor policy that increases the size of the labor force by promoting later retirement not only helps address the need for a skilled labor force supply when the rate of growth in the workforce will be shrinking, but also increases the income to the payroll-funded trust funds.

CONCLUSION

The upcoming policy debate should have as its starting point how to slow the growth in Medicare in the context of our aging of society.

Addressing the short range objective of postponing the In fund exhaustion date to provide time to consider longer range solvency, as called for in the Trustees Report, will likely encompass the more traditional Medicare savings strategies, such as reductions in provider reimbursement, as well as structural reforms that provide beneficiaries greater choice and introduce innovative cost containment strategies, such as competitive bidding. The financial problems facing the Medicare program are well known. However, policy analysis to date may have focused too narrowly on the financial issues of Medicare and other Federal programs and paid too little attention to the overall implications of an aging society.

Perhaps we need to consider that the serious long-range financing issues facing society can be better evaluated through an expanded point of view, incorporating the overall health care and retirement income needs of an aging population and overall economic policy, rather than focusing solely on expenditure growth rates in Medicare and other Federal programs.

While many of the forces underlying Medicare growth are inexorable and outside the control of policy makers, responding to these forces is the responsibility of the policy process. Given the complexity of the issues, their interwoven nature, and the magnitude of the problem, the policy process must recognize that:

• The health care needs of the baby boom generation will exist and will need to be met-regardless of the question of private or public funding;
  
  
• Entitlement programs should not be considered deficient just because of the costs they incur as a result of meeting these needs;
  
  
• The magnitude of the needs, and the importance of ensuring that they are met, suggests the desirability of a balanced, diversified collection of social insurance programs, private group insurance and pension plans, and individual savings efforts; and
  
  
• Future demographic trends have significant implications for more than just entitlement programs and are intrinsically related to the nation's economic well being. Sufficiently robust economic growth can provide the resources to meet future retirement and health care needs while securing the living standard of the non-aged.

As the Trustees have recommended, action is needed in the short-run to gain sufficient time to make recommendations on approaches to long-term solvency. It would be irresponsible not to take action. It is time to set aside the controversial elements in the competing Medicare proposals to fashion a Medicare package of changes that can be enacted and that can extend the HI trust fund sufficiently in the short-term to enable us to face the challenges of the future.