Medicare HMOs:

Setting Payment Rates Through Competitive Bidding

HEHS-97-154R: Published: Jun 12, 1997. Publicly Released: Jun 12, 1997.

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William J. Scanlon
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Office of Public Affairs
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GAO reviewed the Health Care Financing Administration's (HCFA) proposed use of competitive bidding as an alternative method for setting Medicare health maintenance organization (HMO) payment rates, focusing on: (1) the potential advantages of competitive bidding in the Medicare HMO program; (2) the main features of HCFA's planned competitive bidding demonstration in Denver; and (3) HMO's key objections to it.

GAO noted that: (1) Medicare's current system for setting HMO payment rates, which is based on local fee-for-service spending, generates excess payments to some health plans; (2) these excess payments are substantial, perhaps $2 billion annually, and are likely to grow as the managed care program grows; (3) alternative payment mechanisms could reduce excess HMO payments and help Medicare, and taxpayers, realize the savings potential of managed care; (4) competitive bidding is one such alternative mechanism that might be successfully employed in certain markets; (5) to succeed, a competitive bidding system must provide health plans an incentive to submit bids that reflect no more than the plans' expected costs and a reasonable profit; (6) allowing plans to choose to remain outside of the competitive bidding process and collect the adjusted average per capita cost-based rate, while other area plans submit competitive bids, would unravel the fundamental incentives of competitive bidding; (7) similarly, the plans that bid, but bid high relative to their competitors must face some consequence; (8) the mechanism proposed by HCFA for the Denver demonstration, and recommended by the Physician Payment Review Commission, is to require high bidders to charge beneficiaries a premium, making it harder for high bidders to gain market share; (9) this is a much weaker consequence than excluding high bidders from the marketplace, as is done in the Arizona Medicaid program; (10) however, HCFA's mechanism has the advantage of preserving the widest possible choice of plans for Medicare beneficiaries; (11) GAO recognizes that HCFA's legislative authority does not explicitly address the type of competitive bidding demonstration planned for Denver; and (12) HCFA may already possess the necessary authority, however, in the interest of facilitating demonstrations that test new methods of paying HMOs, including competitive bidding, GAO continues to believe, as it stated in its 1995 report, that the Congress should consider enacting legislation to give HCFA explicit authority to mandate HMO participation in demonstration projects.

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