For Release on Delivery

Expected at

2:30 p.m.

Thursday,

March 22, 2001

GAO-01-539T

MEDICARE

Higher Expected Spending

and Call for New Benefit

Underscore Need for

Meaningful Reform

Statement of David M. Walker

Comptroller General of the United States

Testimony

Before the Committee on Finance, U.S. Senate

United States General Accounting Office

GAO
Page 1 GAO-01-539T

Chairman Grassley, Ranking Member Baucus, and Members of the

Committee:

I am pleased to be here today as you consider the need to strengthen and

modernize the Medicare program. In previous testimony before this

Committee, I have consistently stressed that without meaningful reform,

demographic and cost trends will drive Medicare spending to

unsustainable levels but that today’s projected surpluses provide an

opportunity to act before these trends make needed changes more painful

and disruptive.

Although Medicare’s short-term outlook has improved since I last testified,

this should not distract us from focusing on the more important long-term

perspective. The Medicare Trustees’ latest projections incorporate more

realistic assumptions about long-term health care spending and, as a

result, the long-term outlook for Medicare’s financial future has

deteriorated substantially since the last Trustees’ Annual Report. The

Medicare Trustees and the Congressional Budget Office (CBO) now agree

that spending will grow faster than was previously predicted. At the same

time, the fiscal discipline imposed through the Balanced Budget Act of

1997 (BBA) continues to be challenged, while interest in modernizing the

Medicare benefits package to include prescription drug coverage has

increased. As a result, the need for meaningful Medicare reform is even

clearer today.

We must capitalize on momentum gathering in this Committee and

elsewhere to take action to adopt effective cost containment reforms

alongside potential benefit expansions. It is important that any benefit

expansion efforts be coupled with adequate program reforms so as not to

worsen Medicare’s long-range financial condition. Ultimately, any

comprehensive Medicare reform must confront several fundamental

challenges. In summary:

• Our long-term budget simulations show that demographics and health care

spending will drive projected long-term deficits and debt. Our January

2001 long-term simulations show that even if all unified surpluses are

saved—which no one expects will occur—large and persistent deficits will

return in the long term absent policy change.

• Medicare spending is likely to grow faster than previously estimated. The

Medicare Trustees are now projecting that, in the long- term, Medicare

costs will eventually grow at 1 percentage point above per-capita gross

domestic product (GDP) each year—about 1 percentage point faster than

the previous assumption. Accordingly, as estimated by the Office of the
Page 2 GAO-01-539T

Actuary at the Health Care Financing Administration, (HCFA), the

estimated net present value of future additional resources needed to fund

Part A Hospital Insurance (HI) benefits over the next 75 years increased

from $2.6 trillion last year to $4.6 trillion—an increase of more than 75

percent.

• Measurement of Medicare’s sustainability can no longer be merely the

traditional measure of HI Trust Fund solvency that has been used to assess

the program’s financial status. Both Part A expenditures financed through

its Trust Fund and Part B Supplementary Medical Insurance (SMI)

expenditures financed through general revenues and beneficiary

premiums must be taken into consideration.

• Since the cost of a drug benefit will boost these spending projections even

further, adding drug coverage under Medicare’s already dark financial

cloud will require difficult policy choices that will likely have a significant

effect on beneficiaries, the program, and the marketplace.

• Properly structured reforms to promote competition among health plans

can help make beneficiaries more cost conscious. However, improvements

to traditional fee-for-service (FFS) Medicare are also critical, as it will

likely remain dominant for some time to come.

• Fiscal discipline is difficult, but the continued importance of traditional

Medicare underscores the need to base adjustments to provider payments

on hard evidence rather than anecdotal information and to carefully target

relief where it is both needed and deserved.

• Reform of Medicare’s management, which is on the table as discussions of

Medicare program reforms proceed, similarly will require carefully

targeted efforts to ensure that adequate resources are appropriately

coupled with increased accountability.

• Ultimately, we will need to look at broader health care reforms to balance

health care spending with other societal priorities. In doing this, it is

important to look at the entire range of federal policy tools—tax policy,

spending, and regulation. It is also important to note the fundamental

differences between health care wants, which are virtually unlimited, from

needs, which should be defined and addressed, and overall affordability, of

which there is a limit.

The new consensus that Medicare is likely to cost more than previously

estimated serves to reinforce the need to take prompt action. Realistically,

reforms to address the Medicare program’s huge long-range financial

imbalance will need to proceed incrementally. In addition, efforts to
Page 3 GAO-01-539T

update the program’s benefits package will need careful and cautious

deliberation. This is especially important in connection with a potential

prescription drug benefit, as this coverage represents one of the fastestgrowing expenditures for public and private health plans. Therefore, the

time to begin these difficult, but necessary, incremental steps is now.

As I have previously testified before this Committee, Medicare as currently

structured is fiscally unsustainable. While many people have focused on

the improvement in the HI Trust Fund’s shorter-range solvency status, the

real news is that Medicare’s long-term outlook has worsened significantly

during the past year. A new consensus has emerged that previous program

spending projections have been based on overly optimistic assumptions

and that actual spending will grow faster than has been assumed.

First, let me talk about how we measure Medicare’s fiscal health. In the

past, Medicare’s financial status has generally been gauged by the

projected solvency of the HI Trust Fund, which covers primarily inpatient

hospital care and is financed by payroll taxes. Looked at this way—and

based on the latest Trustees’ report—Medicare is viewed as solvent

through 2029. (See fig. 1).

Medicare’s Long-Term

Outlook Has

Worsened

Traditional HI Trust Fund

Solvency Measure Is a

Poor Indicator of

Medicare’s Fiscal Health
Page 4 GAO-01-539T

Figure 1: Medicare’s Hospital Insurance Trust Fund Faces Cash Deficits as

Baby Boomers Retire

Note: Projections are based on the intermediate assumptions of the 2001 HI Trustees’

Report.

Source: GAO analysis of data from the Office of the Actuary, Health Care Financing

Administration.

However, HI trust fund solvency does not measure the growing cost of the

Part B Supplementary Medical Insurance (SMI) component of Medicare,

which covers outpatient services and is financed through general revenues

and beneficiary premiums. Part B accounts for somewhat more than 40

percent of Medicare spending and is expected to account for a growing

share of total program dollars.

In addition, HI trust fund solvency does not mean the program is

financially healthy. Although the trust fund is expected to remain solvent

until 2029, HI outlays are predicted to exceed HI revenues beginning in

2016. As the baby boom generation retires and the Medicare-eligible

population swells, the imbalance between outlays and revenues will

increase dramatically. Thus, in 15 years the HI trust fund will begin to

experience a growing annual cash deficit. At that point, the HI program

must redeem Treasury securities acquired during years of cash surplus.

Treasury, in turn, must obtain cash for those redeemed securities either

through increased taxes, spending cuts, increased borrowing, retiring less

debt, or some combination thereof.

Clearly, it is total program spending—both Part A and Part B—relative to

the entire federal budget and national economy that matters. This total

-600

-400

-200

0

200

400

600

FY1990 1995 2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050

Billions of 2000 dollars

Cash surplus/deficit HI trust fund balance

Cash deficits

reemerge in

2016

Trust fund depleted

in 2029
Page 5 GAO-01-539T

spending approach is a much more realistic way of looking at the

combined Medicare program’s sustainability. In contrast, the historical

measure of HI trust fund solvency cannot tell us whether the program is

sustainable over the long haul. Worse, it can serve to distort the timing,

scope, and magnitude of our Medicare challenge.

Besides looking at total program spending, any assessment of Medicare’s

financial condition must acknowledge that absent meaningful program

reforms, program cost growth will likely be greater than has been

previously projected. A technical panel advising the Medicare Trustees

recently recommended assuming that future per-beneficiary costs for both

HI and SMI eventually will grow at a rate 1 percentage point above GDP

growth—about 1 percentage point higher than had previously been

assumed.1 That recommendation was consistent with a similar change

CBO made to its Medicare and Medicaid long-term cost growth

assumptions last year.2 In their new estimates published on March 19,

2001, the Trustees adopted the technical panel’s long-term cost growth

recommendation.3 The Trustees note in their report that this new

assumption substantially raises the long-term cost estimates for both HI

and SMI. In their view, incorporating the technical panel’s

recommendation yields program spending estimates that represent a more

realistic assessment of likely long-term program cost growth. (See fig. 2.)

Under the old assumption (the Trustees’ 2000 best estimate intermediate

assumptions), total Medicare spending consumes 5 percent of GDP by

2063. Under the new assumption (the Trustees’ 2001 best estimate

intermediate assumptions), this occurs almost 30 years sooner—2035—

and by 2075 Medicare consumes over 8 percent of GDP, compared with 5.3

percent under the old assumption. The difference clearly demonstrates the

dramatic implications of a 1 percentage point increase in annual Medicare

spending over time.

 1Technical Review Panel on the Medicare Trustees Reports, Review of Assumptions and Methods of

the Medicare Trustees’ Financial Projections (Dec. 2000). As the panel noted, for many years the

Medicare projections have been based on an assumption that in the long run, average per-beneficiary

costs would increase at about the same rate as program underlying funding sources. For HI, this meant

that expenditures were assumed to increase at the same rate as average hourly earnings. For SMI, this

meant that per-beneficiary costs were assumed to grow at the same rate as per-capita GDP.

2CBO, The Long-Term Budget Outlook (Oct. 2000).

3See 2001 Annual Report of the Board of Trustees of the Federal Hospital Insurance Trust Fund

(March 2001) and 2001 Annual Report of the Board of Trustees of the Federal Supplementary Medical

Insurance Trust Fund (March 2001).

New Estimates Increase

Urgency of Reform Efforts
Page 6 GAO-01-539T

Figure 2: Medicare Spending as a Share of GDP Under Old and New

Assumptions

Note: Data are gross outlays as projected under the Trustees’ intermediate

assumptions.

Source: GAO analysis of data from the 2000 and 2001 HI and SMI Trustees

Reports.

Figure 3 reinforces the need to look beyond the HI program. HI is only the

first layer in this figure. The middle layer adds the SMI program, which is

expected to grow faster than HI in the near future. By the end of the 75-

year projection period, SMI will represent almost half of total estimated

Medicare costs.

If federal Medicaid spending is also considered, an even more complete

picture of the future health care entitlement burden emerges. Including

Medicaid, federal health care costs will grow to 14.5 percent of GDP from

today’s 3.5 percent. Taken together, the two major government health

programs—Medicare and Medicaid—represent an unsustainable burden

on future generations. In addition, this figure reflects only the federal

government’s share—the burden of states’ Medicaid matching costs on

state budgets is another fiscal challenge. According to a recent National

Governors Association statement, increased Medicaid spending has

already made it difficult, if not impossible, for states to increase funding

for other priorities.

0

2

4

6

8

10

2000 2010 2020 2030 2040 2050 2060 2070 2075

Percent of GDP

2000 Trustees 2001 Trustees
Page 7 GAO-01-539T

Figure 3: Medicare and Medicaid Spending as a Share of GDP

Notes:

1. Medicare data are gross outlays as projected under the Trustees’ 2001 intermediate

assumptions.

2. Federal Medicaid data based on CBO’s October 2000 long-term budget outlook.

Source: GAO analysis of data from the Congressional Budget Office and the March 2001

HI and SMI Trustees Reports.

When viewed from the perspective of the federal budget and the economy,

the growth in health care spending will become increasingly unsustainable

over the longer term.4 Our message remains the same as in my earlier

appearances before this Committee: to move into the future with no

changes in federal health and retirement programs is to envision a very

different role for the federal government in the future. Assuming, for

example, that Congress and the President adhere to the often-stated goal

of saving the Social Security surpluses, our long-term simulations show a

world by 2030 in which Social Security, Medicare, and Medicaid absorb

 4See Long-Term Budget Issues: Moving from Balancing the Budget to Balancing Fiscal Risk (GAO-01-

385T, Feb. 6, 2001). Given CBO’s October 2000 long-term health cost estimates and the Medicare

technical panel’s higher long-term cost growth recommendation, we incorporated higher long-term

health care cost growth consistent with the Medicare technical panel’s recommendation into our

January 2001 updates of our long-term simulations.

0

2

4

6

8

10

12

14

16

2000 2010 2020 2030 2040 2050 2060 2070 2075

Percent of GDP

HI SMI Medicaid
Page 8 GAO-01-539T

most of the available revenues within the federal budget. Under this

scenario, these programs would require more than three-quarters of total

federal revenue even without adding a prescription drug benefit.5 (See fig.

4.)

Figure 4: Composition of Federal Spending as a Share of GDP Under the

“Save the Social Security Surpluses” Simulation

Notes:

1. Revenue as a share of GDP declines from its 2000 level of 20.6 percent to 19.3 percent

due to unspecified permanent policy actions that reduce revenue and increase spending

to eliminate the non-Social Security surpluses.

2. The Save the Social Security Surpluses simulation can be run only through 2055 due to

the elimination of the nation’s capital stock.

Source: GAO’s January 2001 analysis.

Little room would be left for other federal spending priorities such as

national defense, education, and law enforcement. Absent changes in the

structure of Medicare and Social Security, sometime during the 2040s

government would do nothing but mail checks to the elderly and their

health care providers. Accordingly, substantive reform of the Medicare

and Social Security programs remains critical to recapturing our future

fiscal flexibility. As our long-term budget simulations show, this is true

even if the entire projected surplus is saved. (See fig. 5.)

 5The “Save the Social Security Surplus” simulation assumes that tax cuts and/or spending increases

equal to the size of the on-budget surplus are enacted.

0

10

20

30

40

50

2000 2030 2050

Percent of GDP

Net interest Social Security M edicare & M edicaid All other spending

Revenue
Page 9 GAO-01-539T

Figure 5: Unified Deficits as a Share of GDP Under Alternative Policy

Simulations

*Data end when deficits reach 20 percent of GDP.

Source: GAO’s January 2001 analysis.

Higher cost estimates are not the only reason why early action to address

the daunting challenges of Medicare is critical. First, ample time is

required to phase in the reforms needed to put this program on a more

sustainable footing before the baby boomers retire. Second, timely action

to bring costs down pays large fiscal dividends for the program and the

budget. The high projected growth of Medicare in the coming years means

that the earlier reform begins, the greater the savings will be as a result of

the effects of compounding.

Beyond reforming the Medicare program itself, maintaining an overall

sustainable fiscal policy and strong economy is vital to enhancing our

nation’s future capacity to afford paying benefits in the face of an aging

society. Decisions on how we use today’s surpluses can have wide-ranging

impacts on our ability to afford tomorrow’s commitments. As I have

testified before, you can think of the budget choices you face as a portfolio

of fiscal options balancing today’s unmet needs with tomorrow’s fiscal

challenges. At the one end—with the lowest risk to the long-range fiscal

position—is reducing publicly held debt. At the other end—offering the

greatest risk—is increasing entitlement spending without fundamental

program reform.

Reducing publicly held debt helps lift future fiscal burdens by freeing up

budgetary resources encumbered for interest payments, which currently

-5

0

5

10

15

20

2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050 2055 2060 2065 2070 2075

Percent of GDP

Save Unified

Surpluses*

Save the Social Security

Surpluses*
Page 10 GAO-01-539T

represent more than 12 cents of every federal dollar spent, and by

enhancing the pool of economic resources available for private investment

and long-term economic growth. This is particularly crucial in view of the

known fiscal pressures that will begin bearing down on future budgets in

about 10 years as the baby boomers start to retire. However, as noted

above, debt reduction is not enough. Our long-term simulations illustrate

that, absent entitlement reform, even saving all projected unified surpluses

will ultimately be insufficient to prevent the return of large persistent

deficits.

Despite common agreement that, without reform, future program costs

will consume growing shares of the federal budget, there is also a

mounting consensus that Medicare’s benefit package should be expanded

to cover prescription drugs, which will add billions to the program’s cost.

Thus, to contain spending while revamping benefits, the Congress is

considering proposals to fundamentally reform Medicare. Our work on the

nuts and bolts of the Medicare program provides, I believe, some

considerations that are relevant to your discussion regarding the potential

addition of a prescription drug benefit, various Medicare reform options

based on competition, effective implementation and refinement of new

policies, and improving program management. I make these observations

ever mindful of the need to ensure the program’s sustainability for the

longer term.

Among the major policy challenges facing the Congress today is how to

reconcile Medicare’s unsustainable long-range financial condition with the

growing demand for an expensive new benefit—namely, coverage for

prescription drugs. It is a given that prescription drugs play a far greater

role in health care now than when Medicare was created. Today, Medicare

beneficiaries tend to need and use more drugs than other Americans.

However, because adding a benefit of such potential magnitude could

further erode the program’s already unstable financial condition, we face

difficult choices about design and implementation options that will have a

significant impact on beneficiaries, the program, and the marketplace.

Let’s examine the current status regarding Medicare beneficiaries and drug

coverage. About a third of Medicare beneficiaries have no coverage for

prescription drugs. Some beneficiaries with the lowest incomes receive

coverage through Medicaid. Some beneficiaries receive drug coverage

through former employers, some can join Medicare+Choice plans that

offer drug benefits, and some have supplemental Medigap coverage that

pays for drugs. However, significant gaps remain. For example,

Benefit Expansions

Will Need to Be

Accompanied by

Meaningful Reform

Adding a Fiscally

Responsible Prescription

Drug Benefit Will Entail

Multiple Trade-Offs
Page 11 GAO-01-539T

Medicare+Choice plans offering drug benefits are not available

everywhere and generally do not provide catastrophic coverage. Medigap

plans are expensive and have caps that significantly constrain the

protection they offer. Thus, beneficiaries with modest incomes and high

drug expenditures are most vulnerable to these coverage gaps.

Overall, the nation’s spending on prescription drugs has been increasing

about twice as fast as spending on other health care services, and it is

expected to keep growing. Recent estimates show that national per-person

spending for prescription drugs will increase at an average annual rate

exceeding 10 percent until at least 2010. As the cost of drug coverage has

been increasing, employers and Medicare+Choice plans have been cutting

back on drug benefits by raising enrollees’ cost-sharing, charging higher

copayments for more expensive drugs, or eliminating the benefit

altogether.

It is not news that adding a prescription drug benefit to Medicare will be

costly. However, the cost consequences of a Medicare drug benefit will

depend on choices made about its design—including the benefit’s scope

and financing mechanism. The details of its implementation will also have

a significant impact on beneficiaries, program spending, and the

pharmaceutical market. Experience suggests that some combination of

enhanced access to discounted prices, targeted subsidies, and measures to

make beneficiaries aware of costs may be needed. Any option would need

to balance concerns about Medicare sustainability with the need to

address what will likely be a growing hardship for beneficiaries in

obtaining prescription drugs.

As you consider the options to add a drug benefit, fiscal prudence argues

for balancing this action with the adoption of meaningful Medicare

spending reforms. Before the 107th Congress are two leading proposals,

popularly known as Breaux-Frist I and Breaux-Frist II. Both proposals are

based on a model in which a competitive process determines the amount

that the government and beneficiaries pay to participating health plans.

Currently, Medicare follows a complex formula to set payment rates for

Medicare+Choice plans, and plans compete primarily on the richness of

their benefit packages. Medicare permits plans to earn a reasonable profit,

equal to the amount they can earn from a commercial contract. Efficient

plans that keep costs below the fixed payment amount can use the

“savings” to enhance their benefit packages, thus attracting additional

members and gaining market share. Under this arrangement, competition

Reform Options Based on

Competition Offer

Advantages but Contain

Limitations
Page 12 GAO-01-539T

among Medicare plans may produce advantages for beneficiaries, but the

government reaps no savings.6, 7

In contrast, the competitive premium approach of both Breaux-Frist

proposals offers certain advantages. Instead of having the government

administratively set a payment amount and letting plans decide—subject

to some minimum requirements—the benefits they will offer, plans would

set their own premiums and offer at least a required minimum Medicare

benefit package. Under both proposals, beneficiaries would generally pay

a portion of the premium and Medicare would pay the rest. Plans

operating at lower cost could reduce premiums, attract beneficiaries, and

increase market share. Beneficiaries who joined these plans would enjoy

lower out-of-pocket expenses. Unlike today’s Medicare+Choice program,

the premium support approach provides the potential for taxpayers to

benefit from the competitive forces. As beneficiaries migrated to lowercost plans, the average government payment would fall.

A key difference between the two Breaux-Frist proposals is in how the

program’s contribution is determined. Under Breaux-Frist I, traditional

Medicare would, like the other plans, have to set a premium price. The

amount of the program contribution would be based on the average of the

traditional plan’s premium price and the prices set by the other plans.

Under Breaux-Frist II, the program contribution would be based on the

traditional plan’s premium price alone. Under either version, Medicare

costs would be more transparent: beneficiaries could better see what they

and the government were paying for in connection with health care

expenditures. More importantly, both beneficiaries and the government

would share in the savings if plans lower premiums to gain market share.

Experience with the Medicare+Choice program reminds us that

competition in Medicare has its limits. First, not all geographic areas are

able to support multiple health plans. Medicare health plans historically

have had difficulty operating efficiently in rural areas because of a

sparseness of both beneficiaries and providers. In 2000, 21 percent of rural

beneficiaries had access to a Medicare+Choice plan, compared to 97

percent of urban beneficiaries. Second, separating winners from losers is a

 6Beginning in 2003, plans can use savings to reduce beneficiaries’ Part B premiums. Plans choosing to

do so must share a portion of these savings with the program.

7In fact, the government has been losing money on the Medicare+Choice program. Medicare pays

more, on average, for beneficiaries enrolled in managed care plans than if these individuals had

remained in traditional Medicare. See Medicare+Choice: Payments Exceed Cost of Fee-for-Service

Benefits, Adding Billions to Spending (GAO/HEHS-00-161, Aug. 23, 2000).
Page 13 GAO-01-539T

basic function of competition. Thus, under a competitive premium

approach, not all plans would thrive, requiring that provisions be made to

protect beneficiaries enrolled in less successful plans.

The fundamental nature of proposed Medicare reforms, such as adding a

drug benefit or reshaping the program’s design, makes monitoring the

effects of these changes a necessary responsibility. Today, however, major

difficulties exist in measuring the effects of Medicare policies in a

comprehensive and timely manner, making it difficult to assess the

appropriateness of both program expenditures and provision of services.

Although Medicare is the nation’s largest third-party payer, some of its

vital information systems are decades old and operate on software no

longer commonly used. These systems house a wealth of health and

payment data but lack the flexibility to generate the kind of prompt and

reliable reports that other large payers use to ensure health care quality

and efficiency. This dearth of timely, accurate, and useful information

hinders effective policymaking. This shortcoming is particularly significant

in a program where small rate changes developed from faulty estimates

can mean billions of dollars in overpayments or underpayments.

Our work on BBA payment reforms shows the importance of data-driven

analyses in determining the impact of policy changes. Providers affected

by BBA-mandated lower rates, lower rate increases, or altogether new

payment systems blamed the BBA for their financial difficulties and

pressured the Congress to undo some of the act’s payment reforms. The

Congress responded by making adjustments in subsequent legislation, but

the affected providers argue that more changes are needed and call for

higher payments on the basis of anecdotal evidence. Medicare analysts

were ill-equipped to address these concerns through objective analysis

because the necessary program data were not readily available. Our own

reviews of BBA provisions and their impact showed that payments

generally were adequate to cover providers’ Medicare costs and ensure

beneficiary access, although we identified areas where refinements would

improve the appropriateness of rates to individual providers.

The lesson is that better information, promptly generated, can help

policymakers understand the budgetary impact of policy changes and

distinguish between desirable and undesirable consequences. Such

information could, for example, reveal whether across-the-board rate

increases are warranted or will result in overly generous payments for

some and inadequate payments for others. Based on good data,

refinements can help ensure that payments are not only adequate in the

Effective Implementation

Requires Capacity to

Assess and Refine New

Policies
Page 14 GAO-01-539T

aggregate but also fairly targeted to protect individual beneficiaries and

providers. The BBA experience underscores the need to rely on hard data

and objective analyses rather than assertions and anecdotes. It also argues

for the Congress to ensure that adequate resources are secured for efforts

underway to modernize Medicare’s information systems and conduct

needed research and analyses.

The extraordinary challenge of developing and implementing Medicare

reforms should not be underestimated. Our look at health care spending

projections shows that, with respect to Medicare reform, “getting it wrong”

will have severe consequences. To get it right, effective program design

will need to be coupled with competent program management. With that

goal in mind, questions have been raised about the capacity of the Health

Care Financing Administration (HCFA)—Medicare’s current steward—to

administer the Medicare program effectively. Our reviews of Medicare

program activities confirm the legitimacy of these concerns and suggest

that changes may be necessary to HCFA’s focus, structure, resources, and

operations.

Several proposals have been made to address HCFA management

shortcomings. One approach is to create an entity that would administer

Medicare without any non-Medicare responsibilities. The rationale for this

view is that HCFA’s other responsibilities—administering Medicaid, the

State Children’s Health Insurance Program, and other oversight,

enforcement, and credentialing programs—constitute a separate full-time

job. In the meantime, effective Medicare management requires monitoring

the claims payment and review activities of more than 50 contractors;

setting thousands of payment rates for the various providers of Medicarecovered services; and administering consumer information and beneficiary

protection activities for the traditional fee-for-service component and

Medicare+Choice plans. Alternative approaches would divide the

administration of Medicare’s components between HCFA and an entirely

new entity. The intention would be to eliminate a conflict of interest that

some perceive exists in having the same agency manage both the

traditional fee-for-service and the managed care components.

More details would be necessary before the Congress could consider the

merits of one approach over another. Creating a new agency allows for a

fresh start, eliminating the need to reengineer established practices. The

downside is that it typically takes years before a new agency acquires the

personnel and infrastructure to become fully effective. In addition, it is

questionable whether the perceived advantages of dividing Medicare’s

Effective Leadership and

Sufficient Capacity Are

Critical to Success of

Medicare Reform
Page 15 GAO-01-539T

administration would outweigh the inefficiencies that could result from

duplication or coordination difficulties.

Closely allied with the issue of agency restructuring is the question of

agency leadership. Frequent changes in HCFA leadership make it difficult

for the agency to develop and implement a consistent long-term vision.

The maximum term of a HCFA administrator is, as a practical matter, only

as long as that of the President who appointed him or her. Historically,

their terms have been much shorter. In the 24 years since HCFA’s

inception, there have been 20 administrators or acting administrators,

whose tenure has been, on average, little more than 1 year. These short

tenures have not been conducive to carrying out whatever strategic plans

or innovations an individual may have developed for administering

Medicare efficiently and effectively. Other federal agencies offer a

precedent for an administrator’s tenure to span presidential

administrations. For example, the FBI director’s term is 10 years and the

Social Security Administrator’s term is 6 years. A benefit of similarly

lengthening the HCFA administrator’s tenure would be to better insulate

the program from short-term political pressures.

No matter how well-conceived or how well-led, however, no agency can

function effectively without adequate resources and appropriate

accountability mechanisms. Over the years, HCFA’s administrative dollars

have been stretched thinner as the agency’s mission has grown. Adequate

resources are vital to support the kind of oversight and stewardship

activities that Americans have come to count on—inspection of nursing

homes and laboratories, certification of Medicare providers, collection and

analysis of critical health care data, to name a few. We and other health

policy experts, including several former HCFA administrators, contend

that too great a mismatch between the agency’s administrative capacity

and its designated mandate will leave HCFA unprepared to handle

Medicare reforms and future population growth. In 1999, Medicare’s

operating expenses represented less than 2 percent of the program’s

benefit outlays. Although private insurers incur other costs, such as those

for advertising, and seek to earn a profit, they would not attempt to

manage such a large and complex program with so comparatively small an

administrative budget.

It is not yet clear whether a successfully administered Medicare program

requires reengineering HCFA, creating an entirely new agency, or some

combination of the two options. What is clear, however, is that the

program’s effective governance rests on finding a balance between

flexibility and accountability—that is, granting an entity adequate

flexibility to act prudently and ensuring that the entity can be held
Page 16 GAO-01-539T

accountable for its results-based decisions and their implementation.

Moreover, because Medicare’s future will play such a significant role in the

future of the American economy, we cannot afford to settle for anything

less than a world-class organization to run the program. However,

achieving such a goal will require a clear recognition of the fundamental

importance of efficient and effective day-to-day operations.

In determining how to reform the Medicare program, much is at stake—

not only the future of Medicare itself but also assuring the nation’s future

fiscal flexibility to pursue other important national goals and programs. I

feel that the greatest risk lies in doing nothing to improve the Medicare

program’s long-term sustainability. It is my hope that we will think about

the unprecedented challenge facing future generations in our aging

society. Engaging in a comprehensive effort to reform the Medicare

program and put it on a sustainable path for the future would help fulfill

this generation’s stewardship responsibility to succeeding generations. It

would also help to preserve some capacity for future generations to make

their own choices for what role they want the federal government to play.

While not ignoring today’s needs and demands, we should remember that

surpluses can also serve as an occasion to promote the transition to a

more sustainable future for our children and grandchildren.

Updating Medicare’s benefit package may be a necessary part of any

realistic reform program. Such changes, however, need to be considered in

the context of Medicare’s long-term fiscal outlook and the need to make

changes in ways that will promote the program’s longer-term

sustainability. We must remember that benefit expansions are often

permanent, while the more belt-tightening payment reforms—vulnerable

to erosion—could be discarded altogether. The BBA experience reminds

us about the difficulty of undertaking reform.

Specifically, we must acknowledge that adding prescription drug coverage

to the Medicare program would have a substantial impact on program

costs. At the same time, many believe it is needed to ensure the financial

well-being and health of many of its beneficiaries. The challenge will be in

designing and implementing drug coverage that will minimize the financial

implications for Medicare while maximizing the positive effect of such

coverage on Medicare beneficiaries. Most importantly, any substantial

benefit reform should be coupled with other meaningful program reforms

that will help to ensure the long-term sustainability of the program. In the

end, the Congress should consider adopting a Hippocratic oath for

Medicare reform proposals—namely, “Don’t make the long-term outlook

worse.” Ultimately, we will need to engage in a much more fundamental

Conclusions
Page 17 GAO-01-539T

health care reform debate to differentiate wants, which are virtually

unlimited, from needs, which should be defined and addressed, and overall

affordability, of which there is a limit.

We at GAO look forward to continuing to work with this Committee and

the Congress in addressing this and other important issues facing our

nation. In doing so, we will be true to our core values of accountability,

integrity, and reliability.

Chairman Grassley and Ranking Member Baucus, this concludes my

prepared statement. I will be happy to answer any questions you or other

Members of the Committee may have.

For future contacts regarding this testimony, please call William J.

Scanlon, Health Care Issues, at (202) 512-7114 or Paul L. Posner, Federal

Budget and Intergovernmental Relations, at (202) 512-9573. Other

individuals who made key contributions include Linda F. Baker, James C.

Cosgrove, Paul Cotton, Hannah F. Fein, James R. McTigue, and Melissa

Wolf.

(290042)

GAO Contacts and

Acknowledgments
Orders by Internet

For information on how to access GAO reports on the Internet, send

an e-mail message with “info” in the body to:

Info@www.gao.gov

or visit GAO’s World Wide Web home page at:

http://www.gao.gov

Contact one:

Web site: http://www.gao.gov/fraudnet/fraudnet.htm

E-mail: fraudnet@gao.gov

1-800-424-5454 (automated answering system)

Ordering Information

To Report Fraud,

Waste, and Abuse in

Federal Programs