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United States General Accounting Office: 


Before the Subcommittee on Labor, Health and Human Services, Education 
and Related Agencies, Committee on Appropriations, U.S. Senate: 

For Release on Delivery: 
Expected at 9:30 a.m. 
Wednesday, June 12, 2002: 


Challenges Remain in Setting Payments for Medical Equipment and 
Supplies and Covered Drugs: 

Statement of Leslie G. Aronovitz: 
Director, Health Care—Program Administration and Integrity Issues: 


Mr. Chairman and Members of the Subcommittee: 

I am pleased to be here as you discuss Medicare payment methods 
related to durable medical equipment, prosthetics, orthotics, and 
supplies—products referred to in this statement as medical equipment 
and supplies—and covered outpatient drugs. Over the years, we and the 
Department of Health and Human Services (BHS) Office of the Inspector 
General (OIG) have periodically reported that Medicare has paid higher 
than market rates for various medical equipment and supply items and 
often considerably higher than provider acquisition costs for Medicare-
covered outpatient drugs.[Footnote 1] Since the late 1980s, the 
Congress has enacted a series of legislative changes affecting payment 
methods and payment adjustment authority for medical equipment and 
supplies and outpatient drugs. However, the progress made in setting 
appropriate rates has been mixed, owing, in part, to various 
constraints faced by the agency responsible for administering Medicare—
the Centers for Medicare and Medicaid Services (CMS), formerly called 
the Health Care Financing Administration (HCFA).[Footnote 2] 

In this regard, my remarks today will focus on (1) Medicare's 
experience in setting payment rates for medical equipment and supplies 
and outpatient drugs; (2) certain changes designed to assist in 
setting payments for medical equipment and supplies and outpatient 
drugs incorporated in the Balanced Budget Act of 1997 (BBA);[Footnote 
3] and (3) lessons learned from efforts to improve the appropriateness 
of Medicare's payments. My comments are based primarily on our 
previously issued work. 

In summary, because of the program's size, scope, and role as a public 
payer, Medicare has limited options to set and adjust payments for 
medical equipment and supplies and outpatient drugs. For example, in 
cases where Medicare is the dominant payer for a service or product, 
the program's share of the payments can distort the market, making 
reliance on market prices problematic. Medicare's method of paying for 
medical equipment and supplies is through fee schedules that remain 
tied to suppliers' historical charges to Medicare rather than market 
prices. Similarly, Medicare's method of determining outpatient drug 
payments is based on list prices, not prices that purchasers actually 
pay for the outpatient drugs. Medicare's payment approaches lack 
flexibility to keep pace with market changes, and as a result, 
Medicare often pays higher prices than other public payers for medical 
equipment and supplies and outpatient drugs. 

Despite dramatic instances of wide disparities in market prices and 
Medicare's payment rates for medical equipment and supplies and 
outpatient drugs, Medicare is not in a position to take prompt action. 
To lower unreasonably high payment rates, it must follow a lengthy and 
complicated regulatory process for making payment adjustments. The BBA 
gave HCFA authority to use a streamlined process to adjust payment 
rates for most medical equipment and supplies and outpatient drugs. 
[Footnote 4] However, the agency's attempt to use this authority drew 
intense industry criticism, in part because the agency acted before it 
responded to public comment on how it would implement the authority. 
The Congress then prohibited use of either the original or streamlined 
processes until public comments are addressed and a final rule 
issued.[Footnote 5] To date, a final rule has not been published, 
effectively precluding the use of the original or streamlined 
processes to adjust Medicare payment rates, where excessive. 
Nevertheless, the BBA also provided HCFA the authority to test an 
alternative to setting prices administratively.[Footnote 6] This 
authority permitted HCFA to conduct demonstrations, for a limited 
number of items at a few locations, using competition to determine an 
appropriate payment for these items. In this process, suppliers 
competed for the right to supply certain items on the basis of quality 
and price. Two such demonstrations have reported savings without any 
measurable problems in beneficiary access. 

Past efforts to lower Medicare's overly generous payments suggest 
several lessons. First, payment changes are most effectively 
implemented when the process used to set or adjust a rate is 
defensible. Medicare's size and impact on the nation's health care 
economy means that its payment methods and rate adjustments, no matter 
how reasonable, will face close scrutiny. As a result, the need for 
CMS to collect sufficient information on market prices and potential 
effects on suppliers and beneficiaries before taking action is 
paramount. A second lesson, related to the first, is that the 
information on Medicare claims for medical equipment and supplies is 
not specific enough to enable CMS to determine which products Medicare 
is actually paying for. Thus, the agency has difficulty trying to use 
market prices to set appropriate rates. A third lesson is that for the 
foreseeable future, CMS will have to continue to rely on fee schedules 
based on historical charges in setting payment rates for medical 
equipment and supply items. The recent demonstrations that set 
payments for items through competitive bidding were instructive, but 
the positive results achieved may be neither applicable nor practical 
on a wider scale for many products. 


CMS, an agency within BHS, is responsible for much of the federal 
government's multi-billion-dollar payments for health care, primarily 
through the Medicare and Medicaid programs. Medicare—the nation's 
largest health insurance program—covers about 40 million elderly and 
disabled beneficiaries. Medicaid is a state-administered health 
insurance program, jointly funded by the federal and state 
governments, that covers eligible low-income individuals including 
children and their parents, and aged, blind, and disabled individuals. 
Each state administers its own program and determines—under broad 
federal guidelines—eligibility for, coverage of, and reimbursement 
for, specific services and items. 

Most Medicare beneficiaries purchase part B insurance, which helps pay 
for certain physician, outpatient hospital, laboratory, and other 
services; medical supplies and durable medical equipment (such as 
oxygen, wheelchairs, hospital beds, and walkers); and certain 
outpatient drugs. Medicare part B pays for most medical equipment and 
supplies using a series of fee schedules. Medicare pays 80 percent, 
and the beneficiary pays the balance, of either the actual charge 
submitted by the supplier or the fee schedule amount, whichever is 
less. Generally, Medicare has a separate fee schedule for each state 
for most categories of items, and there are upper and lower limits on 
the allowable amounts that can be paid in different states to reduce 
variation in what Medicare pays for similar items in different parts 
of the country. 

The fee schedules specify a Medicare-allowable payment amount for each 
of about 1,900 groups of products. Each product group is identified by 
a Healthcare Common Procedure Coding System (HCPCS) Level II code, and 
all products grouped under a code are intended to be items that are 
alike and serve a similar health care function. For example, one code 
(E1130) describes a standard wheelchair with fixed arms. Many 
different brands can be billed under this code, so long as they fit 
the basic description. 

Medicare part B also covers roughly 450 outpatient drugs—generally 
those that cannot be self-administered and are related to physicians 
services, such as cancer chemotherapy, or are provided in conjunction 
with covered durable medical equipment, such as inhalation drugs used 
with a nebulizer.[Footnote 7] In addition, Medicare part B covers 
selected immunizations and certain outpatient drugs that can be self-
administered, such as blood clotting factors and some oral drugs used 
in association with cancer treatment and immunosuppressive therapy. 

To administer Medicare part B fee-for-service claims, CMS contracts 
with insurance companies, referred to as carriers, who review and pay 
claims that have been submitted by physicians and other outpatient 
providers and suppliers. To ensure appropriate payment, carriers 
conduct claims reviews that determine, for example, whether the 
services claimed are covered by Medicare, are reasonable and 
necessary, and have been billed with the proper codes. 

Payment Approaches Lack Flexibility to Keep Pace with Market Changes: 

Medicare's size and complexity make it extremely challenging to 
develop payment methods that prudently reimburse providers while 
promoting beneficiary access to items and services. As Medicare's 
steward, CMS cannot passively accept what providers want to charge the 
program. However, because of its size, Medicare profoundly influences 
health care markets. Medicare is often the dominant payer for services 
and products, and in such cases, it cannot rely on market prices to 
determine appropriate payment amounts because Medicare's share of 
payments distorts the market. In addition, Medicare has had difficulty 
relying on competition to determine prices. Because of constraints on 
excluding any qualified provider from participating in the program, 
Medicare traditionally includes all such providers who want to 
participate. Finding ways of encouraging competition without excluding 
some providers—a normal leverage that purchasers use to make 
competition work—has been problematic. As a result, Medicare has had 
to administratively set payment amounts for thousands of services and 
items, trying to do so in ways that encourage efficient delivery, 
while ensuring beneficiary access to them. 

Adding to the complexity of setting payment amounts is Medicare's 
status as a highly visible public program with certain obligations 
that may not be consistent with efficient business practices. For 
example, CMS is constrained from acting swiftly to reprice services 
and supplies even when prevailing market rates suggest that payments 
should be modified. When making substantive changes, Medicare's 
enabling legislation generally requires public input. This minimizes 
the potential for actions to have unintended consequences. However, 
seeking and responding to public input from various provider and 
supplier groups can be a time-consuming process that can sometimes 
thwart efficient program management. 

Prior to 1987, Medicare payments for medical equipment and supplies 
were based on supplier charges, subject to some limitations. As part 
of their responsibilities to administer Medicare claims, individual 
Medicare carriers raised or lowered payments to suppliers in their 
local areas to align them with market prices. When carriers sought to 
adjust payments on this basis, they employed a process that involved 
gathering relevant pricing data from local area markets, determining 
new payment levels on the basis of the price information obtained, and 
notifying area suppliers of the changes. Although HCFA monitored 
carriers' performance in carrying out these steps, it did not evaluate 
the appropriateness of the new payment levels established. 

In 1987, the Congress and HCFA began the process of moving the 
Medicare program from paying on the basis of individual providers' 
charges for medical equipment and supplies and covered outpatient 
drugs, to developing payment methods intended to pay more prudently 
through use of program-determined amounts. Specifically, the Congress 
introduced fee schedules for medical equipment and supplies in 1987. 
[Footnote 8] Statewide fees were determined on the basis of average 
supplier charges on Medicare claims allowed in each state in 1986 and 
1987, and were updated for inflation in some years.[Footnote 9] 
However, the agency lacked mechanisms to otherwise adjust fees to 
reflect marketplace changes. As a result, disparities between fee 
schedule amounts and market prices developed over time, and Medicare 
significantly overpaid for some medical equipment and supplies. 

In recent years, we and the BHS OIG reported on instances where 
Medicare payments for certain medical equipment and supplies and 
outpatient drugs were excessive compared with retail and other prices. 
One notable example of excessive Medicare payments is included in our 
1995 report on surgical dressings.[Footnote 10] We estimated that 
Medicare could have saved almost $20 million in 1995 if it had paid 
the lowest wholesale prices available in a national catalog for 44 
types of surgical dressings. Although Medicare's fee schedule for 
surgical dressings was based on medians of retail prices found in 
supply catalogs when the schedule was set, Medicare's statute did not 
permit HCFA to lower the fee schedule when retail prices for dressings 
decreased.[Footnote 11] 

Another instance of excessive Medicare payment was for home oxygen 
equipment and supplies provided to patients with pulmonary 
insufficiency. Medicare fee schedule allowances for home oxygen were 
significantly higher than the rates paid for almost identical services 
by the Department of Veterans Affairs (VA), which in fiscal year 1995 
paid for home oxygen benefits for over 23,000 patients. In 1997, we 
estimated that Medicare could have saved over $500 million in fiscal 
year 1996 if it had paid rates for home oxygen comparable to those 
paid by VA.[Footnote 12] 

Medicare's payments for outpatient drugs have been similarly 
excessive, although the methodology used to determine payment amounts 
is somewhat different and attempts to tie Medicare's payments to 
market prices. In 1989, the Congress required that physician services 
be paid based on fee schedules beginning in 1992.[Footnote 13] The fee 
schedules developed by HCFA to comply with this requirement provided 
for all outpatient drugs furnished to Medicare beneficiaries not paid 
on a cost or prospective payment basis to be paid based on the lower 
of the estimated acquisition cost or the national average wholesale 
price (AWP).[Footnote 14] Manufacturers report AWPs to organizations 
that publish them in drug price compendia, which are typically updated 
annually, and Medicare carriers base providers' payments on these 
published AWPs. 

In concept, such a payment method has the potential to be market-based 
and self-adjusting. The reality is, however, that AWP is neither an 
average nor a price that wholesalers charge. Because the term AWP is 
not defined in law or regulation, there are no requirements or 
conventions that AWP reflect the price of any actual sale of drugs by 
a manufacturer. Given the latitude manufacturers have in setting AWPs, 
Medicare's payments are often not related to market prices that 
physicians and suppliers actually pay for the products. 

A June 1997 House Budget Committee report accompanying the bill that 
became the BBA, in explaining the reason for specifying a 5-percent 
reduction from AWP, cited a report by the BHS OIG regarding Medicare 
payments for outpatient drugs.[Footnote 15] Among the OIG findings 
were that Medicare payments ranged from 20 percent to nearly 1,000 
percent of certain oncology drugs' commercially available prices. 

Our recent work found that Medicare payments in 2001 for part B-
covered outpatient drugs remained significantly higher than prices 
widely available to physicians and pharmacy suppliers.[Footnote 16] 
For example, most physician-administered drugs had widely available 
discounts ranging from 13 to 34 percent below AWP. Two other physician-
administered drugs had discounts of 65 and 86 percent. Pharmacy 
suppliers—the predominant billers for 10 of the high-expenditure and 
high-volume drugs we analyzed—also purchased drugs at prices 
considerably lower than Medicare payments. For example, two inhalation 
drugs accounting for most of Medicare payments to pharmacy suppliers 
had widely available discounts averaging 78 percent and 85 percent 
from AWP. 

BBA Reforms Sought to Improve Medicare's Ability to Set Appropriate 

Despite such dramatic illustrations of disparities between Medicare 
payments and prices widely available to others acquiring medical 
equipment and supplies and covered outpatient drugs, Medicare has not 
had the tools to respond quickly in such instances. Carriers used to 
adjust payment amounts as part of their responsibility to 
appropriately pay Medicare claims, but in 1987, the Congress 
effectively prohibited use of this process to lower Medicare payment 
rates until 1991.[Footnote 17] In 1988, the Congress required use of a 
more formal "inherent reasonableness" process that could be 
accomplished only by HCFA, not by the carriers.[Footnote 18] In other 
reports, we have described this process as slow and cumbersome and 
have noted that it is not available for some items, such as surgical 
supplies.[Footnote 19] Since 1991, when HCFA was first permitted to 
use the inherent reasonableness process to adjust payments for medical 
equipment and supplies, it successfully did so only once—-for blood 
glucose monitors--and in that instance took almost 3 years to adjust 
the maximum allowable Medicare payment from $185.79 to $58.71. 

In 1997, in response to concerns about HCFA's difficulties in 
adjusting payment rates determined to be excessive, the Congress 
included a provision in the BBA that gave HCFA authority to use a 
streamlined inherent reasonableness process to adjust payments for 
medical equipment and supplies and covered outpatient drugs by up to 
15 percent a year.[Footnote 20] Subsequent legislation required that a 
final regulation taking into account public comments be published 
before the agency could use any inherent reasonableness authority. 
Because the agency has not issued the final regulation, it cannot 
adjust Medicare's fee schedules to respond to market price 
information. The BBA also provided HCFA with opportunities to test an 
alternative to setting rates administratively that could be more 
responsive to market prices.[Footnote 21] This alternative is 
competitive bidding—a process allowing suppliers to compete for the 
right to supply their products on the basis of established criteria, 
such as quality and price.[Footnote 22] 

Streamlined Process to Adjust Fees Needs Further Regulatory Action to 
Be Implemented: 

The BBA gave HCFA authority to use a streamlined inherent 
reasonableness process for part B services (excluding physician's 
services). Under this authority, HCFA can adjust payments by up to 15 
percent per year using a streamlined process, or can use its original 
process with formal notice and comment to make larger adjustments. In 
January 1998, the agency published an "interim final rule with comment 
period" for the streamlined inherent reasonableness process that 
became effective 60 days after it was published.[Footnote 23] This was 
a departure from the usual practice of first responding to public 
comments before issuing a final regulation. 

Under the interim final rule, HCFA delegated authority to use the 
streamlined process to the Medicare carriers that process claims for 
medical equipment and supplies, with final action on payment 
adjustments to be approved by the agency. The carriers attempted to 
lower maximum payment rates for eight groups of products, gathering 
information on retail prices through surveys conducted in at least 16 
states. In September 1998, the carriers notified suppliers of proposed 
adjustments for eight groups of products and solicited comments. 
Industry groups representing various medical equipment and supply 
manufacturers and suppliers expressed serious concerns about how the 
inherent reasonableness process was implemented and whether the 
surveys were conducted properly. The Congress requested that we review 
the appropriateness of implementing the streamlined inherent 
reasonableness authority through an interim final rule and the 
soundness of the carriers' surveys. Pending the results of our review, 
HCFA suspended the carrier-proposed payment reductions in March 1999. 

In November 1999, the Congress passed legislation prohibiting HCFA or 
the carriers from using any inherent reasonableness authority until we 
issued our report and the agency issued a final rule taking into 
account our findings and public comment.[Footnote 24] In our July 2000 
report, we concluded that, while the carriers could have conducted 
their surveys more rigorously, the surveys and other evidence 
sufficiently justified the carriers' proposed payment reductions for 
five of eight product groups.[Footnote 25] In our report, we 
recommended that HCFA clarify criteria for using its inherent 
reasonableness authority, strengthen agency or carrier survey
methodology in the future, collect additional data on prices for the 
other three product groups before adjusting their payment amounts, and 
monitor beneficiary access after any payment changes. Although our 
report is almost 2 years old, CMS has not issued a final regulation 
that would allow it to use either its streamlined or original inherent 
reasonableness processes to adjust Medicare payment amounts for part B 
supplier-billed services. Thus, the agency lacks a tool to adjust its 
fee schedules, short of statutory changes. 

BBA Provisions Authorized Competitive Bidding Demonstration Projects: 

In order to experiment with other ways of setting Medicare's payments 
for medical equipment and supplies and outpatient drugs, the BBA 
provided authority for HCFA to conduct demonstration projects using 
competitive bidding and to include home oxygen in at least one of the 
demonstrations.[Footnote 26] Evidence from two competitive bidding 
projects suggests that, for most of the items selected, competition 
might provide a tool that facilitates setting more appropriate payment 
rates and result in program savings. 

In its first competitive bidding demonstration, conducted in Polk 
County, Florida, HCFA set rates for oxygen, hospital beds, surgical 
dressings, enteral nutrition and supplies, and urological supplies 
through competitive bidding. HCFA reported that the new rates set by 
this competitive process in the Florida demonstration saved Medicare 
an average of 17 percent on the cost of these medical equipment and 
supply items without compromising beneficiary access to these items. 
[Footnote 27] 

In a second demonstration in San Antonio, Texas, the agency included 
oxygen; hospital beds; manual wheelchairs; noncustomized orthotic 
devices, including "off-the-shelf" items such as braces and splints; 
and albuterol sulfate and other nebulizer drugs. Preliminary CMS 
information on the San Antonio competitive bidding demonstration 
identified an average savings of 20 percent, without any negative 
effects on beneficiary access. 

Past Efforts to	Correct Inappropriate Payments Suggest Lessons for The	

Whether attempting to adjust payments administratively or through 
competitive bidding, CMS can only be effective if it has a defensible 
process for doing so and accurate information upon which to base 
action. Any change to Medicare's payments, particularly a reduction in 
fees for medical equipment and supplies or covered outpatient drugs, 
should be accompanied by an ongoing assessment of whether the new 
payments adequately support Medicare beneficiaries' access to such 
items and services and properly reimburse providers and suppliers. 
Such monitoring needs to examine current experience so that prompt fee 
adjustments can be made if access problems are found. 

Efforts to lower excessive payment rates through the inherent 
reasonableness process illustrate the difficulties CMS has in making 
even minor adjustments, as the agency's actions can have wide 
ramifications for providers, suppliers, and beneficiaries. When HCFA 
tried to use its streamlined inherent reasonableness authority in 1998 
to reduce payment rates for various medical equipment and supply items 
and outpatient drugs, it attempted to take action before responding to 
public comment, thereby leaving the effort open to criticism. In 
addition, we concluded that the carriers' survey methodology was not 
rigorous enough to provide a basis to adjust fees nationally for all 
of the products under review. 

What the agency lacked was sufficient information on market prices. 
Such information, along with current local, as well as national, data 
on beneficiaries' use of services and program expenditures, is key to 
setting rates administratively. Because HCFA did not have reliable 
acquisition cost information, its carriers engaged in a very labor-
intensive information-gathering effort. 

One major problem CMS has when going to the marketplace to collect 
information is that it cannot determine the specific products Medicare 
is paying for when carriers process claims for medical equipment and 
supplies. Carriers pay claims on the basis of billing codes indicating 
that the supplied items belong to a particular product group. These 
groups can cover a broad range of product types, quality, and market 
prices. As a result, products that differ widely in properties, use, 
performance, and price are billed under the same code and the program 
pays the same amount. For example, we reported in 1998 that catheters 
belonging to a single product category varied in type and price, from 
about $1 to $18, with Medicare's maximum fee payments ranging across 
states from $9.95 to $11.70.[Footnote 28] However, HCFA had no 
information on which catheters were being provided to beneficiaries. 

To address the problem of insufficient specificity, we recommended in 
the 1998 report that suppliers be required to include universal 
product numbers (UPN) as well as current billing codes on claims. UPNs 
and associated bar codes are increasingly used to identify specific 
medical equipment and supplies, similar to the way universal product 
codes are used in supermarkets. Manufacturers can use bar codes for 
each product to identify characteristics such as the manufacturer, 
product type, model, size, and unit of packaging. Using UPNs—or some 
other mechanism—incorporated into claim forms to bring more 
specificity to what is provided to beneficiaries could help CMS better 
determine appropriate payments. 

Under provisions in the Health Insurance Portability and 
Accountability Act of 1996 (BIPAA), BHS has adopted standards for 
coding medical services, procedures, and equipment and supplies. 
[Footnote 29] These provisions were aimed at simplifying data 
reporting and claims processing requirements across all public and 
private payers. Under the standards, HCPCS Level II was designated as 
the code set for medical equipment and supplies. Its limitation in 
specificity argues for evaluating whether the current code set can be 
adjusted to better distinguish between various products currently 
grouped within a single HCPCS Level II code. 

Lack of specificity has been a similar problem for the codes used to 
define inpatient hospital procedures. The BIPAA standard code set for 
reporting hospital inpatient procedures is the International 
Classification of Disease, 9th Edition, Clinical Modification, Volume 
3 (ICD-9 CM Vol. 3). The inadequacy of this code set is widely 
recognized, as it lacks both the specificity to accurately identify 
many key aspects of medical procedures as well as the capacity to 
expand in order to appropriately incorporate codes in response to new 
technology. In fact, BHS recognized that in adopting the ICD-9-CM Vol. 
3 as a BIPAA standard, the agency would need to replace it, given the 
code set's limitations. As a consequence, CMS plans to implement a new 
code set, the International Classification of Disease, 10th Edition, 
Procedural Coding System (10 PCS), which would provide much greater 

Our work on payments for covered outpatient drugs, which identified 
strategies used by other payers to obtain prices closer to acquisition 
costs, underscores the value of accurate information for determining 
appropriate payments. For example, the VA uses the leverage of federal 
purchasers to secure verifiable information on actual market 
transactions by private purchasers—specifically, the prices that drug 
manufacturers charge their "most-favored" private customers. To enable 
the VA to determine the most-favored-customer price, by statute, 
manufacturers who wish to sell their products to the federal agencies 
involved are required to provide information on price discounts and 
rebates offered to domestic customers and the terms and conditions 
involved, such as length of contract periods and ordering and delivery 
practices.[Footnote 30] The manufacturers provide this information and 
agree to offer the VA and other government purchasers drugs at these 
prices, subject to VA audit of their records,[Footnote 31] in order to 
have state Medicaid programs cover their drugs. 

This type of information could be helpful in setting payment amounts 
for certain Medicare drugs. It is already available to CMS, but for 
use only in the Medicaid—-not the Medicare-—program.[Footnote 32] With 
congressional approval, CMS could use the information provided to 
Medicaid to determine appropriate prices for Medicare that would be 
based on actual prices being paid in the market. One key step would be 
to determine the formula to use to calculate payments based on the 
price data. Most likely, Medicare would not set payments to match the 
prices paid by most favored customers but would need to pay closer to 
average market prices to ensure access for all beneficiaries and 
adequate payments to providers. 

Results from the competitive bidding demonstrations suggest that 
competition can also serve as a tool to obtain more appropriate prices 
for medical equipment and supplies and outpatient drugs. By competing 
a small number of products and limiting the geographic area of 
competition, CMS took steps to manage the process, which included 
monitoring of beneficiary access and product quality. In its fiscal 
year 2003 budget, the Administration proposed expanding competitive 
bidding for medical equipment and supplies nationally, which it 
estimates could save $240 million in fiscal year 2003 and $5 billion 
over 10 years. 

The Administration's expansion proposal to translate these limited 
demonstrations into a competition involving a larger number of 
products nationally would be a substantial undertaking and may not be 
practical or appropriate for all products. CMS would require new 
authority to begin to use competitive bidding outside of a 
demonstration. A key element to the new authority would be the extent 
to which and the basis whereby providers could be excluded from 
Medicare. While Medicare normally allows any qualified provider to 
participate in the program, competitive bidding may be most effective 
only by limiting the number of providers or suppliers who could 
provide items or services. For example, in the Polk County 
demonstration, only 16 out of the 30 bidders were selected to 
participate. Limiting the number of participating suppliers obviously 
has an effect on both beneficiaries and suppliers. While provider 
participation is not an entitlement, the effects of exclusion—in terms 
of numbers of providers and the volume of services affected—need to be 
identified and assessed. Similarly, for some products, who the 
provider is may be of little consequence for the beneficiary, but for 
others, maintaining greater beneficiary choice and direct access to 
the provider could be important. 

Whether payment rates are set or adjusted through competitive bidding 
or administrative fee-setting, monitoring to ensure that beneficiaries 
continue to have access to the items or services is a critical 
component of such efforts. For example, when the Congress reduced 
Medicare home oxygen payment rates by 25 percent effective January 1, 
1998, and an additional 5 percent effective January 1, 1999, it wanted 
assurance that beneficiaries could continue to receive satisfactory 
service.[Footnote 33] To evaluate the impact of the home oxygen 
payment reduction on access and quality, the BBA required studies 
conducted by us and REIS.[Footnote 34] Neither study found any 
significant access problems with the payment reduction. In addition, 
home oxygen was included in both competitive bidding demonstrations, 
and through those demonstrations, prices were reduced further. HCFA 
estimated that Medicare's home oxygen payments were reduced by 16 
percent in the Polk County demonstration, without beneficiary access 
problems. Such monitoring is important, not just when required by 
statute but as part of an ongoing effort to ensure the Medicare 
program is effectively serving its beneficiaries. 

Unfortunately, such studies to review the effects of payment 
reductions on access are the exception. As we have reported before, 
CMS has not been able to generate data that are timely, accurate, and 
useful on payment and service trends essential to effective program 
monitoring.[Footnote 35] One of the principal lessons to be drawn from 
the many BBA payment reforms is that newly implemented policies need a 
thorough assessment of their effects. Policy changes, particularly 
those that constrain payment, almost inevitably spark calls for 
revisions. Considerations of such revisions need to be based on 
sufficient information so that, at one extreme, policies are not 
unduly affected by external pressures and premature conclusions as to 
their impact, and at the other extreme, policies do not remain static 
when change is clearly warranted.[Footnote 36] CMS has not been well-
positioned to collect and analyze data regarding beneficiaries' use of 
services—information that is essential to managing the program 
effectively.[Footnote 37] This year's 5.4 percent reduction of 
physicians' fees from what was paid in 2001 raised concerns about 
beneficiaries' access. While prior information available on 
physicians' willingness to see Medicare beneficiaries did not indicate 
access problems, this information is somewhat dated.[Footnote 38] 
Informed decisions about appropriate payment rates and rate changes 
cannot be made unless policymakers have detailed and recent data on 
beneficiaries' access to needed services. 

Mr. Chairman, this concludes my prepared remarks. I will be happy to 
answer any questions you or the Subcommittee Members may have. 

Contact and Acknowledgments: 

For further information regarding this testimony, please contact me at 
(312) 220-7600. Sheila Avruch, Hannah Fein, Sandra Gove, Joy Kraybill, 
and Craig Winslow made contributions to this statement. 

[End of section] 

Related GAO Products: 

Medicare Outpatient Drugs: Program Payments Should Better Reflect 
Market Prices. [hyperlink,]. 
Washington, D.C.: March 14, 2002. 

Medicare Physician Payments: Spending Targets Encourage Fiscal 
Discipline, Modifications Could Stabilize Fees. [hyperlink,].
Washington, D.C.: February 14, 2002. 

Medicare: Payments for Covered Outpatient Drugs Exceed Providers' 
Cost. [hyperlink,]. 
Washington, D.C.: September 21, 2001. 

Medicare Part B Drugs: Program Payments Should Reflect Market Prices. 
[hyperlink,]. Washington, 
D.C.: September 21, 2001. 

Medicare Management: CMS Faces Challenges to Sustain Progress and 
Address Weaknesses. [hyperlink,]. Washington, D.C.: July 31, 

DOD and VA Pharmacy: Progress and Remaining Challenges in Jointly 
Buying and Mailing Out Drugs. [hyperlink,]. Washington, D.C.: May 25, 

Medicare Payments: Use of Revised "Inherent Reasonableness" Process 
Generally Appropriate. [hyperlink,]. Washington, D.C.: July 5, 

Balanced Budget Act: Any Proposed Fee-for-Service Payment 
Modifications Need Thorough Evaluation. [hyperlink,]. Washington, D.C.: June 
10, 1999. 

Medicare: Need to Overhaul Costly Payment System for Medical Equipment 
and Supplies. [hyperlink,]. Washington, D.C.: May 
12, 1998. 

Medicare: Access to Home Oxygen Largely Unchanged; Closer HCFA 
Monitoring Needed. [hyperlink,]. Washington, D.C.: April 
5, 1999. 

Medicare: Comparative Information on Medicare and VA Patients, 
Services, and Payment Rates for Home Oxygen. [hyperlink,]. Washington, D.C.: June 
6, 1997. 

Medicare: Excessive Payments for Medical Supplies Continue Despite 
Improvements. [hyperlink,]. Washington, D.C.: August 
8, 1995. 

[End of section] 


[1] A list of related GAO products is included at the end of this 

[2] This statement will refer to HCFA in discussing actions taken 
before the agency's name was officially changed on July 1, 2001. 

[3] Pub. L. No. 105-33, 111 Stat. 251. 

[4] BBA at § 4316, 111 Stat. 390 (codified at 42 U.S.C. § 1395u(b)(8) 
and (9) (Supp. III 1997)). 

[5] Medicare, Medicaid, and SCRIP Balanced Budget Refinement Act of 
1999, Pub. L. No. 106113, App. F, § 223, 113 Stat. 1501, 1501 A-352 
(to be codified at 42 U.S.C. 1395u(b)(8) (Supp. V 1999)). 

[6] BBA at § 4318, 111 Stat. 392 (codified at 42 U.S.C. § 1395w-3 
(Supp. III 1997)). 

[7] A nebulizer is a device driven by a compressed air machine that 
allows the patient to take medicine in the form of a mist or wet 

[8] 0mnibus Budget Reconciliation Act of 1987, Pub. L. No. 100-203, § 
4062, 101 Stat. 1330, 1330-101 (codified at 42 U.S.C. § 1395m (1988)). 
Certain medical equipment and supply items not originally on a fee 
schedule were added later—for example, surgical dressings, were added 
by the Omnibus Budget Reconciliation Act of 1993 Pub. L. No. 103-66, § 
13544(b), 107 Stat. 312, 589 (codified at 42 U.S.C. § 1395m(i) (1994)). 

[9] Prior to 1998, these fees were adjusted each year using formulas 
tied to the Consumer Price Index. No update was provided from 1998 
through 2000 or in 2002, although updates were provided in 2001. 42 
U.S.C. § 1395m(a)(14) (Supp. IV 1998); Medicare, Medicaid and SCRIP 
Balanced Budget Refinement Act of 1999, Pub. L. No. 106-113, App. F, § 
228, 113 Stat. 1501, 1501A-356; and Medicare, Medicaid, and SCRIP 
Benefits Improvement and Protection Act of 2000, Pub. L. No. 106-554, 
App. F, § 425, 114 Stat. 2763, 2763A-519 (to be codified at 42 U.S.C. 
§ 1395m(a)(14)). 

[10] U.S. General Accounting Office, Medicare: Excessive Payments for 
Medical Supplies Continue Despite Improvements, [hyperlink,] (Washington, D.C.: Aug. 
8, 1995). 

[11] Authority to adjust payment rates that were excessive did not 
extend to surgical dressings and certain other medical supplies at 
that time. The BBA extended the authority to adjust rates for any 
payments under part B that are excessive. BBA at § 4316, sec. 
1842(b)(8)(A)(i)(I), 111 Stat. 390 (changing "application of this 
subsection" to "application of this part)." Clarifying this broadened 
scope, "application of this part" was later changed to "application of 
this title to payment under this part." Medicare, Medicaid, and SCRIP 
Balanced Budget Refinement Act of 1999, Pub. L. No. 106-113, App. F, § 
223(c), 113 Stat. 1501, 1501A-353. 

[12] The savings estimate includes adding a 30-percent adjustment to 
VA payment rates to account for differences between the Medicare and 
VA programs. See U.S. General Accounting Office, Medicare: Comparative 
Information on Medicare and VA Patients, Services, and Payment Rates 
for Home Oxygen, [hyperlink,] (Washington, D.C.: June 
6, 1997). 

[13] 0mnibus Budget Reconciliation Act of 1989, Pub. L. No. 101-239, § 
6102, 103 Stat. 2106, 2169 (codified at 42 U.S.C. § 1395w-4 (Supp. I 

[14] 56 Fed. Reg. 59,502, 59,507 (Nov. 25, 1991). 

[15] 11.R. Rep. No. 105-149, at 1354 (1997). 

[16] U.S. General Accounting Office, Medicare: Payments for Covered 
Outpatient Drugs Exceed Providers' Cost, [hyperlink,] (Washington, D.C.: Sept. 21, 

[17] Omnibus Budget Reconciliation Act of 1987, Pub. L. No. 100-203, § 
4062(b), 101 Stat. 1330, 1330-100. 

[18] Medicare Catastrophic Coverage Act of 1988, Pub. L. No. 100-360, 
§ 411(g)(1)(B)(xiii), 102 Stat. 683, 782. These procedures were 
previously applicable only to any inherent reasonableness review with 
respect to physician services. 42 U.S.C. 1395m(a)(10)(B) (1988). 

[19] Changing an unreasonable payment level required, among other 
things, a formal notice-and-comment rulemaking process that involved 
the HCFA Administrator, the Secretary of Health and Human Services, 
and the Director of the Office of Management and Budget (OMB). U.S. 
General Accounting Office, Medicare Payments: Use of Revised "Inherent 
Reasonableness" Process Generally Appropriate, [hyperlink,] (Washington, D.C.: July 5, 
2000) and [hyperlink,]. 

[20] BBA at § 4316, 111 Stat. 251, 390. 

[21] BBA at § 4319, 111 Stat. 251, 392. (Codified at 42 U.S.C. § 1395w-
4 (Supp. III 1997). 

[22] In the competitive bidding demonstration projects authorized 
under BBA, Medicare part B items and services (other than physician 
services) were furnished under competitively awarded contracts. For 
each demonstration product or service, the prices bid by winning 
suppliers were used to determine the competitively bid fee schedule 

[23] 63 Fed. Reg. 687 (Jan. 7, 1998). In this interim final rule, HCFA 
committed to having a notice and comment period for any payment 
adjustments, even through the streamlined process. 

[24] Medicare, Medicaid, and SCHIP Balanced Budget Refinement Act of 
1999, Pub. L. No. 106113, App. F, § 223, 113 Stat. 1501, 1501A-352 
(signed into law January 29, 1999). 

[25] [hyperlink,]. 

[26] BBA at § 4219, 111 Stat. 392. The BBA at 4552(a), 111 Stat. 459, 
also reduced home oxygen payment amounts by 25 percent effective 
January 1, 1998, and an additional 5 percent effective January 1, 1999. 

[27] Medicare program savings did not occur in all product categories; 
there were higher prices for surgical dressings, one of five product 
categories in the demonstration. 

[28] U.S. General Accounting Office, Medicare: Need to Overhaul Costly 
Payment System for Medical Equipment and Supplies, [hyperlink,] (Washington, D.C.: May 
12, 1998). 

[29] Pub. L. No. 104-191, § 262(a), § 1173(c), 110 Stat. 1936, 2025. 

[30] 38 U.S.C. § 8126 (1994). 

[31] The VA negotiates prices for and purchases medical equipment, 
supplies, and drugs through the Federal Supply Schedule. Federal 
Supply Schedule prices are available to any federal agency that 
directly procures pharmaceuticals or medical equipment and supplies, 
including VA medical centers, the Department of Defense, the Bureau of 
Prisons, the Public Health Service, and other designated entities such 
as the District of Columbia, U.S. territorial governments, the Indian 
Health Service, and some state veterans homes. 

[32] Under a provision of the Omnibus Budget Reconciliation Act of 
1990 (OBRA), state Medicaid programs receive rebates from 
manufacturers based on either the manufacturer's "best price" to a 
private purchaser or the average price (including cash discounts and 
other price reductions) paid to drug manufacturers by U.S. wholesalers 
for certain drugs. In order to have their drugs covered by Medicaid, 
manufacturers must be willing to provide the rebate and price 
information to calculate it. § 1927 of the Social Security Act, added 
by OBRA 1990, Pub. L. No.101-508, § 4401, 104 Stat. 1388, 1388-143 
(1990) (classified to 42 U.S.C. Sec. 1396r-8). 

[33] For beneficiaries who receive oxygen at home, Medicare part B 
pays suppliers a fixed monthly fee per beneficiary that covers a 
stationary, home-based oxygen unit and all related services and 
supplies, such as tank refills. There is a separate fixed monthly fee 
for a portable unit, if one is prescribed. Medicare's oxygen payment 
method is called "modality neutral" because the payment rate is the 
same regardless of the type of oxygen delivery system prescribed, i.e. 
compressed gas, liquid oxygen, or oxygen concentrator. 

[34] U.S. General Accounting Office, Medicare: Access to Home Oxygen 
Largely Unchanged; Closer HCFA Monitoring Needed, [hyperlink,] (Washington, D.C.: Apr. 5, 
1999) and Rebecca Olson, Carolyn Harper, Stephanie Lui, and others. 
Report on Peer Review Evaluation of Home Oxygen Equipment. California 
Medical Review, Inc. (San Francisco, Calif.: Sept. 30, 2000). This BHS 
study analyzed 1996 and 1998 claims data to calculate the number of 
Medicare oxygen prescriptions, and also conducted 1999 surveys of 
physicians, suppliers, and beneficiaries. 

[35] U.S. General Accounting Office, Major Management Challenges and 
Program Risks: Department of Health and Human Services, [hyperlink,] (Washington, D.C.: Jan. 2001). 

[36] U.S. General Accounting Office, Balanced Budget Act: Any Proposed 
Fee-for-Service Payment Modifications Need Thorough Evaluation, 
(Washington, D.C.: June 10, 1999). 

[37] U.S.General Accounting Office, Medicare: HCFA Faces Challenges to 
Control Improper Payments, [hyperlink,], (Washington, D.C.: Mar. 
9, 2000). 

[38] U.S. General Accounting Office, Medicare Physician Payments: 
Spending Targets Encourage Fiscal Discipline, Modifications Could 
Stabilize Fees, [hyperlink,], 
(Washington, D.C.: Feb. 14, 2002). 

[End of section]