FOUR MODES FOR PAYING FOR HEALTHCARE – Class 9

Four basic modes of paying for U.S. healthcare:

  1. out of pocket payment;
  2. individual private insurance;
  3. employment based group private insurance; and
  4. government financing.

As private insurance became largely experience rated and employment based, Americans who were low income, chronically ill, or elderly found it increasingly difficult to afford private insurance.

Problems with out-of-pocket mode for paying for healthcare include:

  1. Treating healthcare as a typical consumer item that the great majority of Americans regard healthcare as a basic human need and not a luxury purchase like a VCR.
  2. Cost of healthcare services is unpredictable – medical costs of serious illness or injury usually exceed middle class family’s savings.
  3. Demand for healthcare services may be partially involuntary, and physician driven rather than consumer driven. For example patients in abdominal pain are in poor position to question physician’s ordering laboratory tests, x-rays, or surgery. In instances of elective care, health care consumers can weigh the pros and cons of different treatment options, but those options may be filtered through the biases of the physician providing information.

Insurance companies set premiums by either community rating or experience rating. In experience rating, the premiums are set based on the healthcare experience of each group in using health care services. In community rating, for a given health insurance policy all subscribers in a community pay the same premium. Without community rating, older and sicker groups became less and less able to afford health insurance.

As private insurance became largely experience rated and employment based, Americans who were low income, chronically ill, or elderly found it increasingly difficult to afford private insurance

A. OUT OF POCKET PAYMENT

The simplest mode of financing is the out-of-pocket payments. This is where there is a direct purchase by the consumer of goods and services. For example, Americans purchase most consumer items, such as VCR’s to haircuts, through direct out-of-pocket payments.

One of the problems with treating healthcare as a typical consumer item is because the great majority of Americans regard healthcare as a basic human need and not a luxury purchase like a VCR. If healthcare is a basic human need, then people who are unable to afford healthcare must have a payment mechanism not reliant on out-of-pocket payments.

Another problem is that the costof healthcare services isunpredictable – medical costs of serious illness or injury usually exceed middle class family’s savings.

A third problem is that the demand for healthcare services may be partially involuntary, and physician driven rather than consumer driven. For example patients in abdominal pain are in a poor position to question the physician’s ordering of laboratory tests, x-rays, or surgery. In instances of elective care, health care consumers can weigh the pros and cons of different treatment options, but those options may be filtered through the biasesof the physician providing the information.

For these reasons, among others, health insurance came into being.

B. INDIVIDUAL PRIVATE INSURANCE

A second mode for financing U.S. healthcare is through individual private insurance. In this situation, a third party, theinsurer, is added to the scenario. In the out-of pocket mode of financing payment is through a single transaction. Private insurance requires two transactions: a premium payment from individual to insurance plan and a reimbursement payment from insurance plan to provider. Under indemnity insurance, the process requires three transactions: the premium from individual to insurer, the payment from individual to provider, and the reimbursement from insurer to individual.

A problem with individual private insurance is its huge administrative costs. For example, in the early 20th century in the U.S. there were health insurance policies in which the members paid a premium on a weekly basis and so insurance agents had to visit their clients to collect the premiums as soon after payday as possible.

In the 2000’s, the individual policies provide health insurance for only 9% of the U.S. population.

C. EMPLOYMENT BASED PRIVATE INSURANCE

The following is a simplified history of the evolution of employment based insurance: In the depression era, many patients were not able to pay for hospital care. In 1929, Baylor University Hospital agreed to provide 21 days of hospital care to 1500 Dallas, Texas schoolteachers, if they paid the hospital $6 per person per year. As the depression deepened and private hospital occupancy in 1931 decreased to 62%, similar hospital centered private insurance plans spread. The American Hospital Association built on this prepayment movement and established a statewideBlue Crosshospital insurance plans allowing free choice of hospital. In 1939 the California Medical Association established the first Blue Shield plan to cover physician services. These plans, controlled by state medical societies, followed Blue Cross in spreading across the nation.

By 1940, 39 Blue Cross plans, controlled by the private-hospital industry had a total enrollment of more than 6 million people.

During World War II, wage and price controls prevented companies from granting wage increases but allowed the growth of fringe benefits. With a labor shortage, companies competing for workers began to offer health insurance to employees as a fringe benefit. Enrollment in group health insurance plans increased to 101 million in 1955.

Some of the problems with employment based private insurance includes the following:

  1. Under employer-sponsored health insurance, employers usually pay all or part of the premium that purchases health insurance for their employees. U.S. Government views this as a tax-deductible business expense and not taxable income to the employees. Thus, the federal government is in essence subsidizing employer sponsored health insurance.
  2. Another problem deals with the way insurance companies set premiums by either community rating or experience rating. In experience rating, the premiums are set based on the healthcare experience of each group in using health care services. In community rating, for a given health insurance policy all subscribers in a community pay the same premium. In the early years, Blue Cross plans set insurance premiums by the principle of community rating and commercial insurance companies could use experience rating. During that time, many commercial insurers would not market policies to high-risk groups such as mine workers, who would then be left to Blue Cross. To survive competition from the commercials, Blue Cross had no choice but to seek younger and healthier groups by abandoning community health and reducing premiums for those groups by switching to experience rating. Without community rating, older and sicker groups became less and less able to afford health insurance.
  3. Another problem is that if people no longer had to pay out of pocket for health care they would use more health care. And if healthcare providers could charge insurers rather than patients they could more easily raise prices.

As private insurance became largely experience rated and employment based, Americans who were low income, chronically ill, or elderlyfound it increasingly difficult to afford private insurance.

D. GOVERNMENT FINANCING

As employer sponsored private health insurance grew rapidly in the 1950’s two groups in the population received little or no benefit: the poor and the elderly. The poor were usually unemployed or employed in jobs without the fringe benefit of health insurance. They could not afford insurance premiums. The elderly were hit hard by experience rating. Only one thing could provide affordable care for the poor and the elderly: tax-financed government health insurance.

In 1965, Medicare (for the elderly) and Medicaid (for the poor) were enacted and by the year 2001 over 74 million Americans receive their health insurance through Medicare, Medicaid and the State Children’s Health Insurance Program (SCHIP).

Medicare Part A is a hospital insurance plan for the elderly financed largely through Social Security taxes from employers and employees. Medicare part B insures the elderly for physicians’ services and is paid for by federal taxes and monthly premiums from the beneficiaries. Medicaid is a program run by the states and funded from state and federal taxes that pays for the care of a portion of the population below the poverty line. Because Medicare has large deductibles, co-payments, and gaps in coverage many Medicare beneficiaries also carry supplemental private insurance.

Medicaid is a state-federal partnership that pays for health and long-term care services to certain low-income individuals, including children, the elderly and people with disabilities. States and the federal government share the cost of the program, and each state administers its Medicaid program.  The Centers for Medicare & Medicaid Services (CMS), formerly known as the Health Care Financing Administration, is the HHS agency that administers the Medicaid program.

Problems with government financing include:

  1. Tax-payer example where under private insurance, people who pay premiums get insurance but under government financing those who contribute may not be eligible for benefits, such as taxpayers who are not eligible for Medicaid. Healthy middle income employees generally pay more in social security payments and other taxes than they receive in health care services. Whereas unemployed, disabled, lower income elderly tend to get more health services than they contribute in taxes.
  2. As cost for medical care rose, access declined. Medicaid cutbacks pushed low income people out of the program. Uncovered services under Medicare left the elderly increasingly unable to pay for prescriptions and long term care.

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