Changes to HMO Rate Setting Method Are Needed to Reduce Program Costs

HEHS-94-119: Published: Sep 2, 1994. Publicly Released: Sep 2, 1994.

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William J. Scanlon
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Pursuant to a legislative requirement, GAO reviewed: (1) Medicare's rate setting methodology for health maintenance organizations (HMO); and (2) the ability of the Medicare risk contract program to achieve cost savings.

GAO found that: (1) the Medicare risk contract program has not reduced Medicare costs because the Health Care Financing Administration's (HCFA) rate setting methodology and administrative controls are insufficient to prevent HMO from benefitting from favorable selection; (2) although none of the proposals for a new risk adjustment system provide a definitive alternative to the HCFA methodology, any one of several available proposals would probably improve the system; (3) the Medicare risk contract program faces difficulties not only with risk adjustment, but also with constructing the base payment rate to which these risk adjustments apply; (4) improving the risk adjustment methodology will not correct the problems associated with wide variations in HMO payment rates; and (5) although researchers and HMO industry representatives have proposed a number of alternatives for determining base payment rates under the risk contract program, evidence is insufficient to determine whether any of these proposals would improve the system.

Recommendations for Executive Action

  1. Status: Closed - Implemented

    Comments: As part of its Medicare Choices demonstration, HCFA is sponsoring research on health-based risk adjusters. In addition, the Balanced Budget Act of 1997 mandates that HCFA develop health-based risk adjusters and implement them program-wide no later than January 1, 2000.

    Recommendation: The Administrator, HCFA, should direct the agency to sponsor further research and demonstration work on the four risk adjustors that GAO has identified. HCFA should identify ways to incorporate research on these adjustors into its overall research agenda. The demonstration projects GAO recommends should be independently evaluated in terms of each of the criteria GAO identified, and should be wide ranging enough to permit general conclusions. Specifically, demonstration projects should cover a wide geographic range and a sufficient number and variety of participating HMO. To achieve this goal, the demonstration project must be attractive enough to encourage HMO participation; HMO must be compensated fairly for any increase in administrative costs and, for the duration of the demonstration, they should not be paid less than under the current system because they volunteered for the demonstration.

    Agency Affected: Department of Health and Human Services: Health Care Financing Administration

  2. Status: Closed - Implemented

    Comments: HCFA issued a RFP to conduct a demonstration project that would have set Denver-area HMO payment rates through a competitive bidding process. The Balanced Budget Act of 1997 prohibits HCFA from executing the specific demonstration planned for Denver. However, the act also mandates that HCFA form a Competitive Pricing Advisory Committee to design a competitive pricing demonstration and select the demonstration areas. The act requires that these demonstrations begin no later than January 1, 1999.

    Recommendation: The Administrator, HCFA, should direct the agency to conduct preliminary research on payment methods that could replace the reliance on fee-for-service reimbursement to determine base payment rates for HMO.

    Agency Affected: Department of Health and Human Services: Health Care Financing Administration


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