Medicare Physician Payments: Concerns about Spending Target System Prompt Interest in Considering Reforms
Published: 2004-10-08T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Concerns were raised about the current system Medicare uses to determine annual changes to physician fees--the sustainable growth rate (SGR) system--when fees were reduced by 5.4 percent in 2002. Subsequent administrative and legislative actions modified or overrode the SGR system, resulting in fee increases for 2003, 2004, and 2005. However, projected fee reductions for 2006-2012 have raised new concerns about the SGR system. Policymakers are considering whether to eliminate spending targets or modify them. The Medicare Prescription Drug, Improvement, and Modernization Act of 2003 (MMA) required that GAO study SGR and potential alternatives to the system. This report examines (1) how the SGR system is designed to control spending for physician services, (2) what concerns have been raised about the SGR system and its components, (3) what affects the stability and predictability of physician fee updates under the SGR system, and (4) what alternatives to the current SGR system exist. GAO reviewed relevant laws and regulations and interviewed officials and organizations representing physicians. On the basis of this information, GAO identified potential alternatives to the SGR system and requested illustrative simulations of fee updates and spending on physician services from the Centers for Medicare & Medicaid Services (CMS).
section_title: What GAO Found
paragraphs: To moderate Medicare spending for physician services, the SGR system sets spending targets and adjusts physician fees based on the extent to which actual spending aligns with specified targets. If growth in the number of services provided to each beneficiary--referred to as volume--and in the average complexity and costliness of services--referred to as intensity--is high enough to cause spending to exceed the SGR target, fee updates are set lower than inflation in the cost of operating a medical practice. A wide enough gap between spending and the target results in fee reductions. Physician groups are dissatisfied with SGR as a system to update physician fees. For example, they question the fairness of including rapidly growing spending for physician-administered drugs in the SGR system's definition of physician services expenditures. The groups also contend that the allowance for growth in volume and intensity is too low and lacks the flexibility to allow for factors outside physicians' control. Fee updates under the SGR system have varied widely within an allowed range largely because of annual fluctuations in the growth of the volume and intensity of services that physicians provide to beneficiaries. Certain system design features, such as the use of cumulative spending targets and the need to estimate data, also reduce the stability and predictability of updates. However, MMA's revision of the allowance for growth in volume and intensity of services from an annual change to a 10-year moving average will help to make future updates more stable and predictable. Possible alternatives to the SGR system cluster around the two broad approaches under consideration: (1) end the use of spending targets and separate fee updates from explicit efforts to moderate spending growth or (2) retain spending targets but modify the current SGR system to address perceived shortcomings. CMS projects that either of the two approaches will result in higher aggregate spending, thereby increasing the difficulty of addressing Medicare's long-run financial challenges. The first approach emphasizes stable fee updates, while the second approach automatically adjusts fee updates if spending growth deviates from a predetermined target. While seeking to pay physicians appropriately, it is important to consider how modifications or alterations to the SGR system would affect the long-term sustainability and affordability of the Medicare program. In this context, the choice between the two approaches may hinge on whether primary consideration should be given to stable fee increases or to the need for fiscal discipline within the Medicare program. CMS agreed with the concluding observations in the draft report. Groups representing physicians commented that overall, the draft report offered a good analysis of problems with the SGR system, but did not fully reflect their concerns. We modified the draft as appropriate.

section_title: Letter
paragraphs: Physicians and others raised concerns about the current system Medicare  uses to determine annual changes to physician fees when those fees were  reduced by 5.4 percent in 2002. This reduction was triggered, in part,  because spending on physician services had exceeded predetermined  spending targets and Medicare’s system for updating fees—the sustainable  growth rate (SGR) system—called for a reduction in fees to impose fiscal  discipline. Subsequent administrative and legislative actions modified or  overrode the SGR system, resulting in fee increases for 2003, 2004, and  2005. Absent additional action, however, fees are expected to fall by  approximately 5 percent each year beginning in 2006 and continuing  through 2012 as the SGR system attempts to offset previous excess  spending and align actual spending with the system’s spending targets.  According to physician groups, such a decline in fees would likely  discourage many physicians from treating Medicare beneficiaries. As a  result of these concerns, policymakers are interested in considering the  appropriateness of current spending targets and the SGR system as a  method for determining physician fee updates. Essentially, they are  considering whether to eliminate spending targets or retain them, while  making modifications to the system.
Although the current focus of concern is largely on the potential for  declining physician fees, the historic challenge for Medicare has been to  find ways to moderate the rapid growth in spending for physician services  under the Medicare Supplementary Medical Insurance (SMI)—or Part B— program. In the 1980s, attempts to moderate spending by limiting  physician fees without addressing aggregate expenditures for physician  services were unsuccessful because increases in the number of services  physicians provided per beneficiary—known as volume—and the average  complexity and costliness of those services—known as intensity— continued to drive up spending. As a result, in the Omnibus Budget  Reconciliation Act of 1989, the Congress required the establishment of a  national Medicare physician fee schedule and a system for annually  updating fees that included spending targets. The fee schedule and  spending targets first affected physician fees in 1992. The SGR system,  Medicare’s current system for updating physician fees, was established in  the Balanced Budget Act of 1997 (BBA) and was implemented in 1998.  Both the SGR and its predecessor system provided for cumulative fee  updates that generally exceeded cumulative increases in physicians’ cost  of providing services. Since the establishment of the national fee schedule  and spending targets, the growth in spending for Medicare physician  services has slowed substantially. Nonetheless, recent increases in  physician expenditures due to volume and intensity growth are a reminder  that the historic challenge of moderating spending growth has not  disappeared.
The Medicare Prescription Drug, Improvement, and Modernization Act of  2003 (MMA) required us to study certain adjustments to physician fees,  including the SGR system and alternatives to the system. As discussed  with the committees of jurisdiction, this report examines (1) how the SGR  system is designed to control spending for physician services, (2) what  concerns have been raised about the SGR system and its components,   (3) what affects the stability and predictability of physician fee updates  under the SGR system, and (4) what alternatives to the current SGR  system exist.
In addressing these objectives, we analyzed Medicare expenditure data  from the Medicare Trustees’ 1998 and 2004 annual reports. We also  reviewed laws and regulations pertaining to the SGR system and its  predecessor spending target system and interviewed officials at the  Centers for Medicare & Medicaid Services (CMS), the agency responsible  for administering Medicare; the Congressional Budget Office (CBO); the  Medicare Payment Advisory Commission (MedPAC); and organizations  representing physicians, including the American Medical Association, the  Medical Group Management Association, the Alliance for Specialty  Medicine, and the American College of Physicians. On the basis of these  document reviews and interviews, we identified potential alternatives to  the SGR system. We requested illustrative simulations of fee updates and  total spending under these alternatives from the CMS Office of the Actuary  (OACT). Total spending includes expenditures from all sources—that is,  government outlays and beneficiary spending, including monthly Part B  premiums, deductibles, and coinsurance payments. Because the  simulation estimates produced by CMS OACT include total spending from  all sources, the estimated spending changes will differ from CBO’s cost  estimates for the same alternatives. CBO, which is responsible for  estimating how legislated changes would affect federal spending, does not  include beneficiary spending when it estimates the cost of SGR  alternatives. CMS OACT and CBO estimates may also differ as the result of  differences in the underlying assumptions used by the two agencies. Our  analyses apply only to spending affected by the SGR system—that is,  physician spending in the traditional fee-for-service (FFS) program. We  assessed the reliability of the Medicare expenditure data and data used for  the simulations under alternatives to the SGR system by interviewing  agency officials knowledgeable about the data and who are responsible for  producing the projections for the SGR system. We determined that the  data were sufficiently reliable for the purposes of our study. We performed  this work from January 2004 through September 2004 in accordance with  generally accepted government auditing standards.
subsections: section_title: Background
paragraphs: Medicare spending per beneficiary on physician services has varied  substantially—both among geographic areas and in its growth over time.  The geographic variation in spending—unrelated to beneficiary health  status or outcomes—provides evidence that health needs alone do not  determine spending. Consequently, policymakers have deemed it both  reasonable and desirable to question the appropriateness of current and  projected physician services spending and to explicitly consider the  affordability of such spending when setting physician fees. The  implementation of a national fee schedule and spending targets in 1992,  for example, was designed, in part, to address issues of affordability and  program sustainability by slowing spending growth. Moderating this  growth remains part of the larger effort to ensure future Medicare program  sustainability.
subsections: section_title: Some Spending on Physician Services May Be Unnecessary, as Suggested by Unwarranted Regional Variation in Use of Physician Services
paragraphs: In 1989, the Physician Payment Review Commission (PPRC) reported that  from 1979 through 1989 (the decade prior to the establishment of spending  targets), Medicare spending on physician services per beneficiary more  than tripled, rising much more rapidly than general inflation. At that time,  PPRC recommended an expenditure target for controlling aggregate  spending on physician services. The target was to apply initially to all  physician services nationally and later to evolve to separate targets for  regions, categories of physician services, or both.
Then, as now, utilization of physician services varied widely by geographic  area, while the Medicare patient populations in these areas differed little  from one another in their illnesses. Some studies report that variation in  service use indicates that in some parts of the country compared with  others, there was either overuse or underuse of services. Recent studies of  Medicare expenditures show that regional variation in the use of medical  services remains and that the spending disparities among areas are  explained by physicians’ discretionary practices rather than by differences  in patient populations’ health status.
section_title: Physician Service Expenditures Have Grown Less Rapidly after Spending Targets and Fee Schedule Were Established
paragraphs: Three periods from 1980 to the present describe Medicare’s recent  experience in spending for physician services. Figure 1 shows growth in  Medicare spending per beneficiary for physician services during the three  periods. In the first period, 1980 through 1991, Medicare’s payment rates  for physician services were based on historical charges for these services,  and limits were placed on fees and fee updates but not on aggregate  spending. In the 1992 through 1997 period, physician services were paid  under a national fee schedule, and the first spending target system—called  the Medicare volume performance standard (MVPS)—set an allowable  growth rate for aggregate spending that was used to adjust physician fees.  From 1998 on, services continue to be paid under a fee schedule and the  SGR system replaced the MVPS system and uses a different method to set  an acceptable growth rate for aggregate spending.
In the 1980s, Medicare paid physicians on the basis of “reasonable charge,”  defined as the lowest of the physician’s actual charge, the customary  charge (the amount the physician usually charged for the service), or the  prevailing charge (based on comparable physicians’ customary charges).  Under this system, payment inconsistencies existed among physicians by  services, specialties, and locations. The system also had an inflationary  bias, as a rise in customary charges could increase prevailing charges over  time. During this decade, expenditures for physician services grew  rapidly: from 1980 through 1991, Medicare spending per beneficiary for  physician services grew at an average annual rate of 11.6 percent.  Although the Congress froze fees or limited fee increases in the 1980s,  spending continued to rise because there were no limits on growth in the  volume and intensity of services physicians provided to beneficiaries.
Recognizing that the expenditure growth of the 1980s was not sustainable,  the Congress reformed the way Medicare paid for physician services in the  traditional FFS program by requiring the establishment of a national fee  schedule for physician services and a system for controlling aggregate  physician service spending, MVPS. The establishment of a fee schedule in  1992 was an attempt to break the link between physicians’ charges and  Medicare payments. The fee schedule was designed to pay for services  based on the relative resources used by physicians to provide different  types of care and to address the inflationary bias of the charge-based  system. The adoption of a spending target system was an attempt to  control spending growth attributable to increases in the volume and  intensity of physician services.
Under MVPS, a performance standard for a given year was set, indicating a  growth rate for expenditures that should not be exceeded. The extent to  which actual expenditure growth fell above or below the performance  standard helped to determine the update to physician fees 2 years later.  For example, in 1993, CMS compared actual spending in 1992 with the  performance standard for 1992; the difference largely determined the  update to physician fees in 1994. The performance standard was based on  changes in four factors: the number of FFS Medicare beneficiaries,  practice cost inflation, the historical growth in volume and intensity, and  laws and regulations that could affect spending for physician services.
From 1992 through 1997—the period that MVPS was used to set fee  updates—annual spending growth for physician services was far lower  than in the preceding decade. The decline in spending growth during this  period was the result, in large part, of slower volume and intensity growth.  For example, from 1985 through 1991, spending per beneficiary grew at an  average annual rate of 10.8 percent; during that period, volume and  intensity of service use per beneficiary rose an average 7 percent annually.  From 1992 through 1997, the growth in spending per beneficiary fell to 4.4  percent; during that period, average annual growth in volume and intensity  of service use per beneficiary fell to 1 percent. (See fig. 2.)
Physician Payment Review Commission, 1995 Annual Report to Congress (Washington,  D.C.: 1995). system’s perceived shortcomings, the Congress took action in BBA in 1997  to replace it with the SGR system. In 1998 and 1999, the first 2 years of  the SGR system, volume and intensity growth remained similar to the rate  under MVPS. However, from 2000 through 2003, volume and intensity  growth rose at an average annual rate of about 5 percent. Over the 1998– 2003 SGR system period, the average growth in volume and intensity of  services per Medicare beneficiary was higher than the average for the  1992–1997 MVPS period—but substantially below that experienced before  spending targets were introduced. Since the introduction of the SGR  system, total spending on physician services is projected to grow by an  average of 8 percent a year from 2000 through 2005.
section_title: Controlling Spending for Physician Services Part of Larger Challenge to Maintain Fiscal Discipline in Medicare
paragraphs: The MVPS spending target was based, in part, on a 5-year historical trend in volume and  intensity reduced by a specified number of percentage points. Because of this design and  the fact that volume and intensity growth dropped dramatically after the adoption of the  MVPS system, the target for future volume and intensity increases fell too. in its present form. In light of physician service expenditures’ significant  contribution to aggregate spending, containing their growth plays an  important role in helping to address the program’s long-range and  fundamental financing problem.
section_title: SGR System Designed to Adjust Fee Updates to Bring Actual Spending for Physician Services in Line with Spending Targets
paragraphs: The SGR system is designed to impose fiscal discipline and to moderate  spending for physician services by adjusting annual fee updates to bring  spending in line with targets. The SGR system, similar to the predecessor  MVPS system, relies on spending targets because earlier attempts to  achieve fiscal discipline through limits on fee increases did not control the  spending that resulted from volume and intensity growth. The SGR system  uses a formula specified in statute to establish each year an allowed  spending growth rate, a spending target, and a fee update. Like MVPS, the  SGR system includes an allowance for volume and intensity increases but,  unlike MVPS, ties the allowance to a measure of the growth of the national  economy.
subsections: section_title: Spending Targets for Physician Services Used to Encourage Fiscal Discipline
paragraphs: As noted, spending targets were established—first under MVPS and later  under the SGR system—because policymakers contended that the fee  schedule alone would not have adequately constrained expenditure  growth for physician services. The fee schedule limits payment for  individual services but does not moderate spending growth resulting from  volume and intensity increases. Although the SGR system’s spending  target does not cap expenditures for physician services, it serves as a  budgetary control by automatically lowering fee updates in response to  excess spending due to volume and intensity growth. In addition, reduced  fee updates serve as a signal to physicians collectively and to the Congress  that spending due to volume and intensity has increased more than  allowed.
An additional reason for spending targets was advanced by PPRC in its  1995 report to the Congress. PPRC explained that spending targets were  intended, in part, to create a collective incentive for physicians.  Specifically, the report stated that spending targets “provid the medical  profession with a collective incentive to reduce inappropriate care by, for  instance, developing and disseminating practice guidelines that promote  cost-effective practice styles.”
section_title: SGR System Sets Allowable Spending Growth and Targets for Physician Services
paragraphs: Every year, CMS must estimate the allowed rate of increase in spending  for physician services and use that rate to construct the annual spending  target for the following calendar year. The sustainable growth rate is the  product of the estimated percentage change in (1) input prices for  physicians’ services; 27, 28 (2) the average number of Medicare beneficiaries  in traditional FFS; (3) national economic output, as measured by real  (inflation-adjusted) GDP per capita; and (4) expected expenditures for  physician services resulting from changes in laws or regulations. CMS’s  current estimate of the sustainable growth rate for 2005 is 4.6 percent,  based on the agency’s estimates of the four factors. (See table 1.)
section_title: SGR System Adjusts Fee Updates to Align Spending with Target
paragraphs: Every fall, CMS determines whether the fee update for the following  calendar year must be adjusted to help align spending with targets. To do  so, the agency compares actual spending, measured cumulatively since  1996, to the cumulative value of the annual targets, measured over the  same period. If the two are equal, the fee update is set to equal the  estimated increase in physicians’ average cost of providing services—as  measured by MEI. Otherwise, a performance adjustment factor (PAF) is  used to increase or decrease the update relative to MEI in order to help  bring spending back in line with the targets. (See app. I for the formula  used to calculate the PAF.) The PAF is subject to limits and may not cause  the update to be set at more than 3 percent above MEI or 7 percent below  MEI. In part because of these limits, adjustments to realign actual  cumulative spending with cumulative targets are spread out over more  than 1 year.
See BBRA, §211(b), 113 Stat. 1501A348-49.
Revisions to targets first affected fee updates in 2001. In setting the target for that year,  CMS revised only the 2000 SGR target. According to CMS, the agency was not authorized to  revise the 1998 or 1999 SGR targets.
The fee for each service is determined using a resource-based relative value scale in  which the resources required for a service are valued in relation to the resources required  to provide all other physician services adjusted for the differences in the costs of providing  services across geographic areas. To arrive at a fee, the service’s relative value is multiplied  by the dollar conversion factor.
The update to the dollar conversion factor represents the aggregate of increases and  decreases across all services. Because the relative value of individual services can change  yearly, fee changes for specific services may be different than the overall fee update.
Under SGR’s system of cumulative spending targets, excess spending that  is not offset in one year accumulates in succeeding years until it is  recouped. For 2005, MMA increased actual spending but did not adjust the  target for this additional spending. Now the gap between actual spending  and the target will result in an additional deficit that under the SGR system  will have to be recouped through negative updates in future years.
section_title: SGR System Ties Allowed Increases in Volume and Intensity to Growth in National Economy
paragraphs: The parameters of the SGR system allow spending due to the volume and  intensity of physician services to increase, but limit that growth to the  same rate that the national economy (GDP) grows in real terms (that is,  adjusted for inflation) over time on a per capita basis. Under the SGR  system, if the volume and intensity of physician service use grows faster  than the national economy, the annual increase in physician fees will be  less than the estimated increase in the cost of providing services.  Conversely, if volume and intensity grows more slowly, the SGR system  permits physicians to benefit from fee increases that exceed the increased  cost of providing services. To reduce the effect of yearly business cycles  on physician fees, MMA required that economic growth be measured as  the 10-year moving average change in real GDP per capita for each year  beginning in 2003. This measure is projected to range from 2.1 percent to  2.5 percent during the 2005 through 2014 period.
When the SGR system was established, GDP growth was seen as a  benchmark that would allow for affordable increases in volume and  intensity and also one that represented a significant improvement over the  benchmark included in the previous MVPS system. In its 1995 annual  report to the Congress, PPRC stated that limiting real expenditure growth  to 1 or 2 percentage points above GDP would be a “realistic and affordable  goal.” Ultimately, BBA specified the growth rate of GDP alone. This limit  was an indicator of what the nation could afford to spend on volume and  intensity increases. Whether this rate is a sufficient and appropriate  allowance for volume and intensity increases is uncertain. Currently,  volume and intensity is projected to grow by more than 4 percent per year,  whereas the allowance for this growth under the SGR system is about   2.3 percent annually. Such excess volume and intensity growth is a key  contributing factor to negative fee updates.
section_title: Various Concerns Raised about SGR System and Its Components
paragraphs: Physician groups are dissatisfied with SGR as a system to update  physician fees and have raised various concerns about its key  components. Noting that physicians are uniquely subject to a system of fee  updates that are explicitly linked to spending controls, the groups contend  that the SGR system has caused payment rates in recent years to fall  behind physicians’ cost of providing services. The groups’ concerns with  specific SGR system components center on the following issues: the  fairness of including Medicare-covered outpatient drugs in the calculation  of physician service expenditures; the appropriateness of tying allowable  volume and intensity increases to the average growth in real GDP per  capita; and the completeness, accuracy, and transparency of the method  used to account for spending increases due to changes in laws and  regulations.
subsections: section_title: Physicians Dissatisfied That Medicare Spending for Physician Services Is Subject to Spending Targets
paragraphs: Physician groups are concerned that physicians are the only Medicare  provider type whose annual payment updates are subject to a spending  target system. Payment rate updates for hospitals and other institutional  providers, they note, are typically based on changes in the cost of  providing services. However, as CBO, MedPAC, and others have noted,  physicians are different from other providers in certain ways, which helps  to provide a rationale for the application of targets solely to physician  expenditures. Specifically, they note that physicians determine the  services they deliver to their patients and influence the care delivered by  other providers. In addition, under Medicare payment policies, physicians  receive a separate payment for each service they provide. Thus, they can  boost income by increasing the volume or intensity of services they  provide. For example, a physician may follow up a patient’s visit by  scheduling another visit, even when such a follow-up visit is discretionary  and could be substituted with a telephone call. In contrast, Medicare  typically pays institutional providers a fixed amount for a bundle of  services; under this arrangement, no inherent incentive exists to provide  extra services, as doing so would not increase payments.
section_title: Physicians Question Fairness of Including Part B Outpatient Drugs in Calculation of Physician Service Expenditures
paragraphs: One of physician groups’ chief concerns is that through fee schedule  updates, the SGR system holds physicians accountable for the escalating  growth in Medicare expenditures for the majority of Part B-covered  drugs. (Drugs included in the SGR system are largely physician  administered and do not include all Part B-covered drugs.) The groups  contend that the SGR system should not include these drugs in the  calculation of aggregate physician service expenditures or the spending  targets. Although the targets account for increases in the drugs’ prices, the  targets do not explicitly account for increases in their utilization or the  substitution of more expensive drugs for less expensive ones. Physician  groups note that the use of the outpatient drugs currently covered by  Medicare is largely nondiscretionary and that physicians should not be  penalized for prescribing these drugs. To the extent that expenditures for  these Medicare-covered outpatient drugs grow faster than real GDP per  capita—which is the SGR system’s allowance for volume and intensity  increases—other physician spending must grow more slowly or aggregate  spending will exceed the targets and fee updates for physician services  will be reduced.
In 2002, Medicare covered approximately 450 outpatient prescription  drugs. The drugs that account for most of Medicare’s Part B drug  expenditures are physician administered, such as those for cancer  chemotherapy, accounting for 80 percent of total Medicare spending for  Part B drugs in 2001. In 2001, oncologists submitted about 42 percent of  prescription drug claims, while urologists accounted for 17 percent.
Part B prescription drugs are not covered by the physician fee schedule,  but the expenditures for most Part B drugs are included in the SGR system  expenditures because, at the time spending targets were first introduced,  the Secretary of Health and Human Services (HHS) included these drugs  as services and supplies “incident to” physicians’ services. Since that time,  Medicare spending for all Part B drugs has grown substantially, from  about $700 million in 1992 to an estimated $8.5 billion in 2002. Much of the  spending growth has resulted from increases in utilization and the  substitution of newer, more expensive medications. Because SGR-covered  Part B drug expenditures have grown more rapidly than other physician  service expenditures, drug expenditures as a proportion of allowable  spending under the targets have grown from 8.7 percent in 2002 to an  estimated 12.3 percent in 2004. Such rapid growth in drug expenditures  increases the likelihood that actual spending will exceed SGR system  targets. Moreover, because only payments for services included in the  physician fee schedule are offset when physician service spending  deviates from the spending targets, the increase in the share of total  expenditures attributed to prescription drugs magnifies the adjustment  that must be made to the update to bring spending in line with the targets.
section_title: Physicians Concerned That Key Spending Drivers Are Not Included in SGR System’s Allowance for Volume and Intensity Growth
paragraphs: Physician groups have expressed concern that the SGR system’s  allowance for volume and intensity growth—the 10-year moving average  growth in real GDP per capita—is both too low and inflexible. They  contend that tying the allowance to GDP results in targets that do not  adequately account for appropriate increases in the demand for physician  services and changes in medical practice, such as the following:    A sicker beneficiary population. Physician groups reason that although  health status drives demand for services, the GDP growth allowance  would not account for any increases in physician spending that could be  due to greater care demands per beneficiary.
Technological advances. The groups note that new, expensive medical  technologies can provide meaningful health gains for Medicare  beneficiaries but that these technology costs are likely to grow faster than  GDP.
Site-of-service shifts. The groups note that patients with complex  conditions formerly treated in hospitals are increasingly treated in  physician offices and that treating such patients, who may require frequent  office visits and costly procedures, is likely to contribute to volume and  intensity growth.
The MVPS system provided an explicit opportunity to address some of  these concerns procedurally. In addition to the allowance for volume and  intensity growth specified in statute, the MVPS system also provided  specific authority for the HHS Secretary to recommend revising the  allowed increase based on factors such as changes in technology and  concerns about access to physician services. Under the MVPS system, the  Secretary never exercised the authority to make recommendations other  than implementing the MVPS default formula, but it still remained an  option.
section_title: Transparency Lacking in Process for Estimating Changes in Medicare Spending for Physician Services due to Laws and Regulations
paragraphs: The SGR system is designed to account for changes in law and regulation  that could affect aggregate spending for physician services. For example,  for 2005, CMS estimates that increased spending resulting from MMA’s  coverage of a preventive physical examination for new beneficiaries,  cardiovascular screening blood tests, and diabetes screening tests, among  other new increases, will be almost fully offset by new MMA-required  payment adjustments for Part B drugs, which will lower physician service  spending. Physician groups we spoke with contend that the process for  developing such estimates may not be accurate or complete.
Assessing the accuracy and completeness of these estimates is difficult, as  CMS’s process for identifying the applicable statutory and regulatory  changes and the methods used to arrive at dollar estimates are not fully  transparent. Either data are lacking to quantify the effects of changes or  consensus is lacking on the assumptions and interpretations made about  the changes and their effects. Currently, CMS does not use a formal  mechanism for soliciting input from physician groups or other experts  before obtaining public comment when future fees are announced in the  Federal Register. Physician groups contend that at least including  physician representatives in the process of assessing changes in laws and  regulations would improve CMS’s analysis of effects and would be more  efficient than waiting for the public comment period.
section_title: Variable Growth in Provision of Physician Services and Certain SGR System Design Elements Reduce Stability and Predictability of Physician Fee Updates
paragraphs: Fee updates under the SGR system have varied widely within an allowed  range, principally because of annual fluctuations in the growth of the  volume and intensity of services that physicians provide to beneficiaries.  Two of the SGR system’s design characteristics—the cumulative nature of  spending targets and the use of estimated data elements in the spending  target—also serve to reduce the stability and predictability of updates. The  MMA provision that revised the allowance for growth in service volume  and intensity from real GDP per capita growth rates each year to a 10-year  moving average will reduce some of the swings in future SGR system  updates.
subsections: section_title: Fluctuating Volume and Intensity Growth Is a Principal Cause of Instability of Fee Updates
paragraphs: Annual fluctuations in the growth of the volume and intensity of services  that physicians provide to beneficiaries have been a principal cause of the  instability of physician fee updates. Since the SGR system was  implemented in 1998, volume and intensity growth has ranged from   1.2 percent in 1999 to 6.1 percent in 2002. (See fig. 2.) It is uncertain how  much physicians’ discretion in the provision of their services contributes  to the fluctuation in volume and intensity growth.
Several studies have found that physicians respond to reduced fee updates  by increasing the volume and intensity of services they provide to help  maintain their total Medicare income. In estimating future spending and  fee updates, both CMS and CBO assume that physicians will compensate,  through volume and intensity increases, for a portion of any fee  reductions. Consequently, both CMS and CBO project that for example, a   1 percent fee reduction would cause aggregate spending to fall by less  than 1 percent. In addition, CBO assumes that physicians will respond to  fee increases by reducing volume and intensity.
Physician groups contend that volume and intensity growth is a necessary  response to increased demand caused by factors outside of physicians’  control as noted earlier, such as the declining health status of Medicare  beneficiaries, Medicare coverage of new benefits, and changing medical  technology and practices that encourage beneficiaries to schedule more  appointments with physicians. As long as the contributing factors are not  fully understood and predictable, unexpected volume and intensity  fluctuations will result in uncertain fee updates year to year.
section_title: SGR System’s Cumulative Targets Increase Potential Fluctuation of Physician Fee Updates
paragraphs: The cumulative nature of the SGR system’s spending targets increases the  potential fluctuation of physician fee updates, as the system requires that  excess spending in any year be recouped in future years. Conceptually,  this means that if actual spending has exceeded the SGR system targets,  fee updates in future years must be lowered sufficiently to both offset the  accumulated excess spending and slow expected spending for the coming  year. Conversely, the system also requires that if spending were to fall  short of the targets, fees would need to be increased so that future  spending would be raised to align with target spending.
Estimation of the 2005 fee update illustrates how excess spending that is  not addressed affects future fee updates. In 2004 actual expenditures  under the SGR system are estimated to be $83.4 billion, whereas target  expenditures for the same year will be $77.3 billion. As a result, 2005 fee  updates need to offset a $6.1 billion deficit from excess spending in 2004  (plus accumulated excess spending of $5.8 billion in past years) and to  realign the year’s expected spending with target spending. Because the  SGR system is designed to offset accumulated excess spending over a  period of years, the deficit for 2004 and preceding years will reduce fee  updates for multiple years.
According to projections made by CMS OACT, maximum fee reductions  will be in effect from 2006 through 2012. Fee updates will be positive in  2014. (See fig. 3.)
section_title: Uncertainty in Estimates of Underlying SGR System Data Elements Decreases Stability and Predictability of Physician Fee Updates
paragraphs: The stability of fee updates under the SGR system depends, in part, on  CMS’s ability to accurately estimate current spending and annual changes  in the four factors that determine the sustainable growth rate: input prices,  FFS enrollment, the 10-year moving average of real GDP per capita, and  expenditures due to changes in laws and regulations. If reality proves  different from these estimates, then the estimates are revised to  incorporate more complete data, thereby contributing to the year to year  fluctuation in fee updates. For example, in the fall of 2004, when CMS  determines the update for 2005, the agency must estimate cumulative  expenditures through the end of 2004 based on incomplete data. If actual  spending is underestimated, the 2005 update will be set higher than it  would have been set without the estimation error. This underestimate will  be corrected, because in setting a fee update, the SGR system requires  CMS to revise the spending estimates and the sustainable growth rates for  the 2 preceding years. Therefore, when more complete spending data  become available, the agency will revise its previous cumulative spending  estimates through 2004 and reduce future fee updates relative to what they  would have been if spending had not been underestimated.
Uncertainty in long-term projections of FFS enrollment, in conjunction  with the cumulative nature of the SGR system’s targets, makes long-term  estimates of fee updates less predictable. Because the SGR system offsets  accumulated excess spending by reducing the update for the fee paid for  each service, a decline in the number of services results in less spending  being offset. For example, currently, CMS estimates that over the next   10 years, enrollment in FFS will decline as more beneficiaries join private  plans. CMS projects that the percentage of Medicare beneficiaries in the  FFS program will decline from about 85 percent in 2005 to 67 percent in  2014. With fewer beneficiaries in FFS, fewer services would be provided.  Therefore, the SGR system would call for more severe update reductions  to offset accumulated excess spending relative to what would have  occurred if FFS enrollment had remained stable. In contrast, CBO  projected that FFS enrollment will increase over the 10-year period at  about the same rate as the increase in overall Medicare enrollment. With  more beneficiaries in FFS, and thus more services provided, update  reductions would not need to be as severe to offset accumulated excess  spending. Therefore, under CBO’s FFS projection, positive fee updates  would be expected to return sooner than under CMS’s FFS projection.
section_title: Switching to the 10-Year Moving Average of Real GDP Per Capita Will Increase Stability and Predictability
paragraphs: MMA changed the SGR system formula to use a 10-year moving average of  real GDP per capita, which is currently 2.3 percent. As noted in our 2002  testimony, this change will eliminate much of the cyclical variation in this  factor that occurred in previous years under the formula when the SGR  system target was tied to the yearly change in real GDP per capita. (See  fig. 4.) Including a more stable measure of economic growth in the SGR  system formula will help increase the stability of fee updates.
section_title: Alternatives for Updating Physician Fees Would Eliminate Spending Targets or Revise Current SGR System
paragraphs: The projected sustained period of declining physician fees and the  potential for beneficiaries’ access to physician services to be disrupted  have heightened interest in alternatives for the current SGR system. In  general, potential alternatives we identified cluster around two  approaches. One approach would end the use of spending targets as a  method for updating physician fees and encouraging fiscal discipline. The  other approach would retain spending targets but modify the current SGR  system to address perceived shortcomings. These modifications could  include one or more of the following options: removing the Part B  prescription drug expenditures that are currently counted in the SGR  system; resetting the targets and not requiring the system to recoup  previous excess spending; using annual, rather than cumulative, targets;  raising the allowance for increased spending due to volume and intensity  growth; and permitting some flexibility in setting the volume and intensity  allowance.
The projections are included to aid comparisons among the various options and are not  intended to serve as predictions for what would occur if the SGR system was replaced or  modified. In addition, there is a degree of uncertainty surrounding any projection and that  uncertainty tends to increase with the number of years for which the projection is made.
For some of these options we present, CBO has developed budget scores, which are  specific cost estimates that include only federal expenditures and exclude spending from  other sources, such as beneficiary cost sharing. When available, we present CBO’s cost  estimates for the options. use the same assumptions regarding volume and intensity growth for  physician services and future FFS enrollment.
subsections: section_title: Eliminate Spending Targets, Base Fee Updates on Physician Cost Increases
paragraphs: In its March 2001 report to the Congress, MedPAC recommended  eliminating the SGR system of spending targets and replacing it with an  approach that would base annual fee updates on changes in the cost of  efficiently providing care. Under this approach, efforts to control  aggregate spending would be separate from the mechanism used to update  fees. The advantage of eliminating spending targets would be greater fee  update stability. However, CMS OACT estimates that this approach,  compared with the current law projection, would result in cumulative  expenditures that are 22 percent greater over a 10-year period.
MedPAC reported that its recommendation could be implemented, in part,  by basing the update on forecast changes in MEI. It suggested that other  adjustments to the update might be necessary, for example, to ensure  overall payment adequacy or correct for previous MEI forecast errors. In  subsequent annual reports to the Congress, MedPAC has continued to  recommend a physician fee update based on MEI. In its March 2004  report, for example, MedPAC stated that current Medicare payments for  physician services were adequate and recommended an update of  approximately 2.6 percent for 2005 to “help maintain physician willingness  and ability to furnish services to Medicare beneficiaries.” MedPAC’s  recommendation contrasts with the 1.5 percent minimum update provided  for by MMA and the negative 3.6 percent update specified by the SGR  system. In 2004 testimony, MedPAC stated that fee updates for physician  services should not be automatic, but should be informed by changes in  beneficiaries’ access to services, the quality of services provided, the  appropriateness of cost increases, and other factors.
Basing the update on MEI would result in positive and relatively stable fee  updates. (See fig. 5.) According to CMS OACT simulations, such an  approach would likely produce fee updates that ranged from 2.1 percent to  2.4 percent over the period from 2006 through 2014. Because physician  fees would increase each year during the entire period, rather than  decreasing each year until positive updates returned in 2014 as they would  under the current SGR system, Medicare spending for physician services  would rise. For the 10-year period from 2005 through 2014, CMS OACT  estimates that this approach would result in cumulative expenditures that  are 22 percent greater than projected under current law. (See fig. 6.) CMS  OACT projects that under current law the net present value of total  Medicare spending (both federal and beneficiary) over the next 75 years  on all Part B services will be $16.9 trillion. If physician fee updates are  based on the change in MEI, CMS OACT estimates that the net present  value of total Medicare spending (both federal and beneficiary) over the  next 75 years on Part B services would equal $19.1 trillion. Real spending  per beneficiary would increase from $2,157 in 2005 to $2,802 in 2014,  compared with real spending per beneficiary under current law, which  would decrease to $1,774 in 2014. (See fig. 7.)
Although MedPAC’s recommended update approach would limit annual  increases in the price Medicare pays for each service, the approach does  not contain an explicit mechanism for constraining aggregate spending  resulting from increases in the volume and intensity of services physician  provide. In 2001, when MedPAC first recommended eliminating the SGR  system, it stated that volume and intensity increases had not been a major  concern since 1992. It added, however, that if volume and intensity growth  reemerged as a concern, Medicare might address the problem by trying to  achieve appropriate use of services through outcomes and effectiveness  research, disseminating practice guidelines and other tools for applying  this research, and developing evidence-based measures to assess the  application of the research findings.
Since MedPAC’s 2001 report, volume and intensity growth has increased  considerably. (See fig. 2.) Subsequent MedPAC reports and testimony have  discussed trends in the use of physician services and have identified  particular services—such as diagnostic imaging—that are growing rapidly,  but the reports have not made recommendations for addressing volume  and intensity growth. However, in 2004 testimony, MedPAC stated that it  planned to study the efficacy of private insurers’ strategies for controlling  spending for high-growth services and whether Medicare might be able to  emulate them.
section_title: Retain Spending Targets, Modify Current SGR System
paragraphs: Another approach for addressing the perceived shortcoming of the current  SGR system would retain spending targets but modify one or more  elements of the system. The key distinction of this approach, in contrast to  basing updates on MEI, is that fiscal controls designed to moderate  spending would continue to be integral to the system used to update fees.  The advantage of retaining spending targets as part of the system for  updating fees is that the system would automatically work to moderate  spending if volume and intensity growth began to increase above  allowable rates. Although many options are possible under this approach,  six are discussed below. All six would produce fee updates that are higher  during the 10-year period from 2005 through 2014 than those projected  under current law but would also result in higher aggregate spending  ranging from 4 percent to 23 percent more, depending on the modification.
subsections: section_title: Remove Part B Drugs from the SGR System
paragraphs: The Secretary of HHS could, under current authority, consider excluding  Part B drugs from the definition of services furnished incident to physician  services for purposes of the SGR system. As discussed earlier,  expenditures for these drugs have been growing rapidly, which, in turn,  has put downward pressure on the fees paid to Medicare physicians.  However, according to CMS OACT simulations, removing Part B drugs  from the SGR system beginning in 2005 would not prevent several years of  fee declines and would not decrease the volatility in the updates. Fees  would decline by about 5 percent per year from 2006 through 2010. (See  fig. 8.) There would be a positive update in 2011—3 years earlier than is  projected under current law. From 2012 through 2014, fees would increase  by approximately 5 percent per year. CMS OACT estimates that removing  Part B drugs from the SGR system would result in cumulative spending  over the 10-year period from 2005 through 2014 that is 5 percent higher  than is projected under current law. (See fig. 9.) Real spending per  beneficiary would increase from $2,157 in 2005 to $2,240 in 2014,  compared with real spending per beneficiary under current law, which  would decrease to $1,774 in 2014. (See fig. 10.)
In 2002, we testified that physician spending targets and fees may need to  be adjusted periodically as health needs change, technology improves, or  health care markets evolve. Such adjustments could involve specifying a  new base year from which to set future targets. Currently, the SGR system  uses spending from 1996, trended forward by the sustainable growth rate  computed for each year, to determine allowable spending.
MMA avoided a fee decline in 2004, and a projected fee decline for 2005,  by stipulating a minimum update of 1.5 percent in each of those 2 years,  but the law did not similarly adjust the spending targets to account for the  additional spending that would result from the minimum update.  Consequently, under the SGR system the additional MMA spending and  other accumulated excess spending will have to be recouped through fee  reductions beginning in 2006. If policymakers believe that the resulting  negative fee updates are inappropriately low, one solution is to use actual  spending from a recent year as a basis for setting future SGR system  targets. Using such an approach, policymakers could essentially forgive  the accumulated excess spending attributable to MMA and other factors.  The effect would be to increase future updates and, as with other  alternatives presented here, overall spending.
According to CMS OACT simulations, forgiving the accumulated excess  spending as of 2005—that is, resetting the cumulative spending target so  that it equals cumulative actual spending—would raise fees in 2006. (See  fig. 11.) However, because volume and intensity growth is projected to  exceed the SGR system’s allowance for such growth, negative updates  would return beginning in 2008 and continue through 2013. Resulting  cumulative spending over the 10-year period from 2005 through 2014  would be 13 percent higher than is projected under current law. (See fig.  12.) Real spending per beneficiary for physician services would grow from  $2,157 in 2005 to $2,334 in 2014, compared with real spending per  beneficiary under current law, which would decrease to $1,774 in 2014.  (See fig. 13.)
One option for reducing the fluctuation in fee updates would be to  eliminate the cumulative aspect of the SGR system’s spending targets and  return to a system of annual targets, as was used under MVPS. As  previously discussed, the cumulative aspect of the SGR system’s spending  targets—although rigorous as a budgetary tool—can produce updates that  swing from the maximum fee reduction to the maximum fee increase. In  contrast, MVPS’s annual spending target approach traded off some fiscal  control for increased fee stability. The MVPS update for a year depended,  in part, on whether actual spending 2 years earlier had exceeded or fallen  short of the annual spending target for that year. For example, the MVPS  update for 1996, which was determined in 1995, was affected by the  relationship between actual and target spending in 1994. In principle,  under MVPS excess spending from a single year, up to a limit specified by  its update formula, was required to be recouped. Excess spending that  could not be made up within those limits would, in essence, be forgiven.
According to CMS OACT simulations, eliminating the cumulative aspect of  the SGR system would result in fee updates that vary less than projected  updates under current law. For example, under an MVPS-like system of  annual targets, from 2006 through 2014, the largest negative update would  be negative 0.6 percent instead of negative 5.0 percent under current law,  and the largest positive update would be 0.9 percent instead of 3.9 percent.  (See fig. 14.) Fees would be essentially flat over the period, instead of  swinging from large fee declines to fee increases as they are expected to  do under the SGR system. Relative to spending projected under current  law, under an MVPS-like system total spending would be greater each year  from 2006 through 2014. CMS OACT estimates that cumulative  expenditures over the 10-year period from 2005 through 2014 would be   15 percent higher than under current law. (See fig. 15.) Real spending per  beneficiary would increase from $2,157 in 2005 to $2,442 in 2014,  compared with real spending per beneficiary under current law, which  would decrease to $1,774 in 2014. (See fig. 16.)
If policymakers agree with physician groups that the current SGR system’s  allowance for volume and intensity growth does not adequately account  for appropriate spending increases that result from technological  innovation or changes in medical practice, the allowance could be  increased by some factor above the percentage change in real GDP per  capita. As stated earlier, the current SGR system’s allowance for volume  and intensity growth is approximately 2.3 percent per year—the 10-year  moving average in real GDP per capita—while projected volume and  intensity growth is higher—about 3 percent per year for physician services  alone, and about 4 percent per year including Part B drugs. To offset the  increased spending associated with the higher volume and intensity  growth, the SGR system will reduce updates below the increase in MEI. In  its 1997 report to the Congress, PPRC recommended adopting an  allowance equal to real GDP per capita plus 1 or 2 percentage points “to  allow for advancements in medical capabilities.”
According to CMS OACT simulations, increasing the allowance for volume  and intensity growth to GDP plus 1 percentage point would likely produce  positive fee updates beginning in 2012—2 years earlier than is projected  under current law. (See fig. 17.) Because fee updates would be on average  greater than under current law during the 10-year period from 2005  through 2014, Medicare spending for physician services would rise. CMS  OACT estimates that cumulative expenditures over the 10-year period  would increase by 4 percent more than under current law. (See fig. 18.)  Real spending per beneficiary would change little from $2,157 in 2005 to  $2,158 in 2014, compared with real spending per beneficiary under current  law, which would decrease to $1,774 in 2014. (See fig. 19.)
Congress could also modify the SGR system’s allowance for volume and  intensity growth by providing flexibility similar to that afforded by the  MVPS system. Although that earlier system of spending targets specified a  default volume and intensity increase, it also allowed the HHS Secretary to  recommend a different increase if changes in medical technology,  beneficiary access to physician services, or other factors warranted an  allowance that was higher or lower than the default increase.
section_title: Combine Options
paragraphs: Two alternatives illustrate the effects of combining individual options. For  example, together the Congress and CMS could modify the SGR system by  removing Part B drugs, resetting the base, and increasing allowed volume  and intensity growth to GDP plus 1 percentage point. According to CMS  OACT simulations, this combination of options would result in positive  updates ranging from 2.2 percent to 2.8 percent for the 2006–2014 period.  (See fig. 20.) CMS OACT projects that the combined options would  increase aggregate spending by 23 percent over the 10-year period (see fig.  21.) and that real spending per beneficiary for physician services would  increase from $2,157 to $2,866, compared with real spending per  beneficiary under current law, which would decrease to $1,774 in 2014.  (See fig. 22.)
Another example of combined options could involve removing Part B  drugs and implementing an MVPS-like system of annual targets, but not  increasing the volume and intensity allowance. CMS OACT simulations  project that this combination would result in fee updates that range from  0.8 percent to 1.3 percent over the period from 2006 through 2014. (See fig.  23.) Over the 10-year period from 2005 through 2014, cumulative spending  for physician services would exceed those projected under current law by  18 percent. (See fig. 24.) Real spending per beneficiary for physician  services would increase from $2,157 to $2,615, compared with real  spending per beneficiary under current law, which would decrease to  $1,774 in 2014. (See fig. 25.)
section_title: Concluding Observations
paragraphs: Medicare faces the challenge of moderating the growth in spending for  physician services while ensuring that physicians are paid fairly so that  beneficiaries have appropriate access to their services. Under the current  SGR system, fees are projected to fall by about 5 percent per year for the  next several years. Total payments to physicians will continue to rise  because of expected increases in volume and intensity. However, on a per  capita basis, real spending per beneficiary will decline, raising concerns  that a sustained period of falling fees could discourage some physicians  from participating in the Medicare program and serving beneficiaries.  These concerns have prompted policymakers to consider alternative  approaches for updating physician fees.
One approach under consideration for solving the problem of declining  fees is for Medicare to abandon the use of spending targets and separate  the program’s attempts to control spending from its method for adjusting  physician fees each year. This is the approach that has been recommended  by MedPAC. Although projected future fee increases would be positive  and relatively stable, eliminating spending targets would increase  spending. The extent to which spending growth would be moderated  would depend upon the efficacy of separate efforts to address growth in  volume and intensity.
Similarly, the other approach of retaining spending targets but modifying  the SGR system to overcome its current perceived shortcomings, would  also increase spending. These alternative approaches could also be  augmented by separate efforts to moderate spending. Alternatives under  this approach seek to preserve the fiscal discipline of spending targets  while providing for reasonable fee updates. These alternative approaches  could also be augmented by other efforts to moderate spending. To the  extent that the growth in spending is moderated, physicians would benefit  from an increase in fees that would be triggered under a spending target  system.
Almost any change to the SGR system is likely to increase Medicare  spending above the amount that is currently projected. Either of the two  broad types of approaches discussed above—replacing the SGR system  and revising the SGR system—could be implemented in a way that would  likely generate positive fee updates. Therefore, the choice between the  two approaches under consideration may hinge on whether primary  importance should be given to stable fee increases or to the need for fiscal  discipline within the Medicare program.
section_title: Agency and Industry Comments and Our Evaluation
subsections: section_title: Agency Comments
paragraphs: In written comments on a draft of this report, CMS agreed with our  concluding observations that appropriately updating the physician  payment rates requires a balance between adjusting physician fees in a  stable and predictable manner and encouraging fiscal discipline with  scarce Medicare resources. CMS expressed its commitment to ensuring  that Medicare beneficiaries have access to high-quality health care and  noted that achieving this goal requires paying physicians appropriately.
CMS mentioned several administrative actions it has taken to improve  Medicare’s payments to physicians, including specific adjustments to MEI  that have both made the index a more accurate representation of inflation  in physician practice costs and resulted in higher payments to physicians.  In addition, the agency committed to considering further administrative  actions and discussed ongoing efforts to implement various provisions of  MMA that may reduce adverse incentives in the current payment system,  allow the program to pay for higher quality care, and uncover innovative  methods to control spending growth in the future. We have reprinted  CMS’s letter in appendix III.
section_title: Industry Association Comments
paragraphs: We obtained oral comments from officials representing the American  Medical Association (AMA), the Medical Group Management Association  (MGMA), the American College of Physicians (ACP), and the Alliance for  Specialty Medicine (ASM). In discussing the draft report with these  groups, their overall reaction was that the report was a good analysis of  the problems with the SGR system; however, they raised a number of  concerns about the draft report. The bulk of their comments focused on  OACT’s estimates of aggregate spending on physician services, the SGR  system’s use of MEI as a measure of input price inflation for physician  services, and the draft’s discussion of physicians’ concerns about the SGR  system. The rest of their comments pertained to either issues related to  physician behavior or to topics outside the scope of our review. A  summary of the physician groups’ comments and our evaluation is  provided below.
Representatives from all four groups commented on CMS OACT’s  estimates illustrating each option’s additional aggregate spending over a  10-year period relative to current law spending over the same period. The  groups were confused by the difference between CMS OACT’s estimates  and CBO’s budget impact estimates, which were available for some of the  options. CBO’s budget scores—that is, cost estimates that show the impact  of legislative changes on the federal budget—include only federal  expenditures and exclude spending from other sources, such as  beneficiary cost sharing. In contrast, CMS OACT’s aggregate spending  estimates include both federal outlays and beneficiary cost sharing.  Because any changes to the SGR system that result in increased spending  would not only affect taxpayers but also Medicare beneficiaries (through  increased cost sharing and part B premiums), we believe it is appropriate  to include the estimated increase in aggregate spending. Nevertheless,  because our focus is on the relative costliness of each option, we revised  the draft to highlight the proportional difference between current law  spending and the spending estimated for each option. In addition, we now  include CBO’s budget scores for each option, where available.
All four physician groups also expressed concern that the draft report did  not discuss the use of MEI as a measure of input price inflation for  physician services. The groups contended that MEI does not contain  sufficiently current data on physician practice costs, stating that it does  not account for or keep pace with the cost of items such as information  technology. Examining MEI and other indices included in the SGR system  was outside the scope of our report. Moreover, in responding to public  comments on a federal regulation, CMS stated that the various expense  categories constituting MEI capture all practice expenses and are based on  the most recent available data.
The physician groups commented that the projected payment reductions  of 5 percent a year from 2006 through 2014 are unrealistically severe and  that the draft report did not sufficiently emphasize the access problems  that beneficiaries would experience in the event of these cuts. They  further noted that the Congress has regularly made adjustments to the  SGR system and would probably act again. We noted in the draft report  that policymakers, physicians, and others are concerned about the impact  that the projected fee reductions would have on beneficiary access to  physician services, noting that the Medicare Trustees and other parties  believe it is unlikely that the projected fee reductions will take place.
Representatives from both ACP and ASM asserted that we should include  a discussion about the effect of the spending targets on physician behavior  and volume and intensity. They noted that evidence is lacking that directly  correlates the introduction of both spending targets and the physician fee  schedule in 1992 with the corresponding drop in volume and intensity in  that year. They believe this reduction was likely caused by something  other than the spending target, such as initiatives aimed at correctly  coding claims for physician services. ACP stated that for the Congress to  evaluate any alternatives, there must be a discussion of how the SGR  system affects the volume and intensity of physician services. As noted in  the draft report, we do not claim that spending targets and the fee  schedule influenced individual behavior and reduced the volume and  intensity of physician services in the early 1990s, we noted that PPRC  claimed that a spending target system would provide a collective incentive  for physicians to develop practice guidelines and control unnecessary  utilization. Further, in the draft report we described spending targets as a  method for automatically imposing fiscal discipline, not as a tool to modify  the behavior of individual physicians.
Representatives from ACP further noted that while the draft report  included a discussion of geographic variation in physician service use, it  did not mention that the SGR system is a blunt instrument in that it applies  nationally to all physicians. In a year in which fees are reduced, physicians  in regions that could be characterized as low spending would receive the  same fee reduction as physicians in higher-spending regions. We agree that  the SGR system does not distinguish between physicians whose  discretionary practice patterns result in higher Medicare spending and  those physicians whose practice patterns do not. As we stated in the draft  report, at the time PPRC recommended expenditure targets, it initially  envisioned a national target that would apply to all physician services and  later the evolution of separate targets that would apply to regions,  categories of physician services, or both.
The physician groups raised additional topics that were beyond the scope  of our study. For example, AMA contended that Medicare’s new  preventive benefits and government-sponsored health campaigns create a  government-induced demand among beneficiaries for services that, in  turn, could increase volume and intensity of service use. To date, studies  have not been conducted on whether new benefits and federal health  campaigns have directly affected Medicare beneficiaries’ use of physician  services. Our report notes, however, that the SGR system’s allowance for  volume and intensity growth, unlike that of the MVPS system, is inflexible  and would not take such factors into account. ACP noted that increased  spending on physician services may be appropriate, as it may result in  other program savings, such as reduced spending for hospital care.  Whether such savings have been or can be achieved would require  research outside this study’s scope.
We are sending copies of this report to the Secretary of Health and Human  Services and interested congressional committees. We will also provide  copies to others on request. In addition, this report is available at no  charge on the GAO Web site at http://www.gao.gov.
If you or your staff have questions about this report, please contact me at  (202) 512-7101 or James Cosgrove at (202) 512-7029. Other contributors to  this report include Jessica Farb, Hannah Fein, and Jennifer Podulka.
section_title: Appendix I: Calculation of the Performance Adjustment Factor
paragraphs: Each year, CMS follows a statutory formula to compute a performance  adjustment factor (PAF) and determines whether the physician fee update  should be adjusted relative to the percentage change in the Medicare  Economic Index (MEI) and, if so, by how much. (See fig. 26.) The PAF  takes into account the difference between actual and target expenditures.  If spending has equaled the targets, the PAF is equal to 1 and the update  will equal the percentage change in MEI. If spending has been below the  targets, the PAF is greater than 1, thus increasing the update. If spending  has been above the targets, the PAF is less than 1, thus reducing the  update. The PAF is a blend of the relative difference between target and  actual spending in the current year, accounting for 75 percent, and the  relative cumulative difference in expenditures from April 1996 through the  current year, accounting for 33 percent. The weights were developed by  the Centers for Medicare & Medicaid Services’ (CMS) Office of the Actuary  (OACT) and included in statute to minimize the volatility of both fee  updates and the time required to align actual spending with the targets.  Applying these weights causes the difference between cumulative actual  expenditures and cumulative target expenditures to be adjusted over  several years rather than during a single year. As a result, the fee update is  less volatile than would be the case if the full adjustment were made in   1 year. The PAF is subject to statutory limits and may not cause the fee  update to be set at more than 3 percent above MEI or 7 percent below  MEI. These limits may further increase the time necessary to align  spending with targets.
section_title: Appendix II: Corrections to Prior Estimates Caused the SGR System’s Cumulative Targets to Produce Negative Updates
paragraphs: Since the introduction of the fee schedule in 1992 through 2001, physicians  generally experienced real increases in their fee updates—that is, fee  updates increased more than the increase in the cost of providing  physician services, as measured by MEI. Specifically, during that period,  fee updates increased by 39.7 percent, whereas MEI increased by   25.9 percent. In 2002, however, the sustainable growth rate (SGR) system  reduced fees by 4.8 percent, despite an estimated 2.6 percent increase in  the costs of providing physician services. (See fig. 27.)
In 2002, corrections to prior estimation errors caused the SGR system’s  cumulative targets to begin producing negative updates. The SGR system  reduced fees in 2002 because estimated spending for physician services— cumulative since 1996—exceeded the target by about $8.9 billion, or   13 percent of projected 2002 spending. In part, the fee reduction occurred  because CMS revised upward its estimates of previous years’ actual  spending. Specifically, CMS found that its previous estimates had omitted  a portion of actual spending for 1998, 1999, and 2000. In addition, in 2002  CMS lowered the 2 previous years’ spending targets based on revised gross  domestic product (GDP) data from the Department of Commerce. Based  on the new higher spending estimates and lower targets, CMS determined  that fees had been too high in 2000 and 2001. In setting the 2002 physician  fees, the SGR system reduced fees to recoup previous excess spending.  The update would have been about negative 9 percent if the SGR system  had not limited its decrease to 7 percent below MEI. Because the previous  overpayments were not fully recouped in 2002, and because of volume and  intensity increases, by 2003, physicians were facing several more years of  fee reductions to bring cumulative Medicare spending on physician  services in line with cumulative targets.
Despite its recognition of errors, CMS had determined that its authority to  revise previous spending targets was limited. In 2002, CMS noted that the  1998 and 1999 spending targets had been based on estimated growth rates  for beneficiary FFS enrollment and real GDP per capita; actual experience  had shown these growth rates to be too low. If the estimates could have  been revised, the targets for those and subsequent years would have been  increased. However, at the time that CMS acknowledged these errors, the  agency concluded that it was not allowed to revise these estimates.  Without such revisions, the cumulative spending targets remained lower  than if errors had not been made.
In late 2002, the estimate of the sustainable growth rate called for a  negative 4.4 percent fee update in 2003. With the passage of the  Consolidated Appropriations Resolution of 2003, CMS determined that it  was authorized to correct the 1998 and 1999 spending targets. Because  SGR system targets are cumulative measures, these corrections resulted in  an average 1.4 percent increase in physician fees for services for 2003.
The Medicare Prescription Drug, Improvement, and Modernization Act of  2003 (MMA) averted additional fee reductions projected for 2004 and 2005  by specifying an update to physician fees of no less than 1.5 percent for  those 2 years. The MMA increases replaced SGR system fee reductions of  4.5 percent in 2004 and an estimated 3.6 percent in 2005. The fee increases  will result in additional aggregate spending. Because MMA did not make  corresponding revisions to the SGR system’s spending targets, its fee  increases will require the SGR system to offset the additional spending by  reducing fees beginning in 2006. In addition, recent growth in spending  due to volume and intensity, which has been larger than SGR system  targets allow, will further compound the excess spending that needs to be  recouped.
section_title: Appendix III: Comments from the Centers for Medicare & Medicaid Services
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