November 3, 2003

By Richard Kogan and Edwin Park

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The Wall Street Journal reported last week that “In a Monday meeting with Medicare negotiators, administration officials proposed limiting the amount of the general fund that could be spent on physician services and the new drug benefit in future years…”[1]  This proposal has been variously described as merging Parts A and B of Medicare, or as capping the general-fund financing of Medicare Part B and the new prescription drug benefit.  While differing descriptions have been provided for the Administration’s precise proposal, the Administration is reported to have proposed changes in the Medicare financing structure that would result in the overall insolvency of all parts of Medicare, apparently by 2026.  Currently, only Medicare Part A will eventually become insolvent, with its insolvency projected for 2026.

The proposed change in the Medicare financing structure thus would eventually precipitate a much larger Medicare crisis.  It would likely lead to a steady alarmist drumbeat that the entire Medicare system will collapse unless radical changes are made in it, and could lead to proposals for radical changes to all aspects of Medicare, which Congress might then consider in a crisis atmosphere.

There is no question that the rising cost of Medicare will place pressure on the budget in coming decades.  But, as explained below, the Administration’s proposal is both ill conceived and inequitable.  If a Medicare trigger of some sort is desired, it would be better to develop a mechanism that triggers Congressional consideration when Medicare cost growth per beneficiary exceeds some benchmark or when total Medicare costs exceed some level of the Gross Domestic Product.

Moreover, the growing cost of Medicare is an issue because the federal budget as a whole is on an unsustainable path.  The long-term budget path is unsustainable not only because of projected increases in health care and retirement costs as the population ages but also because of the erosion of the nation’s revenue base.  Last year, federal revenues fell to their lowest level as a share of the economy since 1959.  If a budget enforcement mechanism is to be enacted, it would be far better to impose a mechanism that applies budget-wide and covers revenues as well as expenditures — such as reinstatement of the Pay-As-You-Go rule that worked successfully for most of the 1990s — rather than to single out Medicare while allowing further tax cuts or other program expansions to be enacted without limit.



The Medicare program, which provides publicly financed medical care for almost all persons age 65 or older and for persons who receive Social Security disability payments, currently operates as two separate budget accounts.

The Administration apparently wants conferees to place a legal limit on the amount of general revenues that can be devoted to Part B and the prescription drug benefit, thereby provoking insolvency for these parts of Medicare.  If the Administration succeeds, physicians’ services and prescription drugs will be faced with the same “insolvency” issues as Medicare Part A.  Reportedly, the Administration wants the date of insolvency for Medicare Part B and the prescription drug benefit to be 2026, the same as the year in which Medicare Part A is projected to become insolvent.  It would make no difference whether the Administration’s goal were achieved through a “combined Medicare trust fund” with a cap on general fund resources or through separate trust funds with an overall cap on general fund resources.

This proposal would have profound implications.  Eliminating the guaranteed general-fund financing of Part B and prescription drugs could:


Possible Ramifications of the Administration’s Proposal

Limiting the amount of general revenues that can be used to finance Medicare Part B (or Part B and the new prescription drug benefit, or the entirety of Medicare) is an inherently arbitrary constraint and has the following ramifications.



Ironically, the reason that general-fund financing of Medicare has been growing more rapidly than payroll-tax financing is that medical care outside of hospitals is now better and relatively cheaper than the older, hospital-based acute-care system.  The Administration appears to be defining a positive trend in medical care as a problem.  Its proposal to place a statutory cap on general fund financing of Medicare, and in effect or in reality to merge the Medicare Part A trust fund (which is financed almost exclusively from payroll taxes) and Medicare Part B (which is financed from the general fund), would likely result in a public perception of a much larger crisis in Medicare as a whole.  Arguably, that crisis would be resolvable only by major cuts in Medicare benefits and significant increases in out-of-pocket payments for medical care by beneficiaries, or by upward pressure on regressive payroll taxes rather than the current upward pressure on progressive income taxes.

There is no doubt that the rising cost of Medicare will be a large source of pressure on the federal budget in coming decades.  But the Administration’s proposal is poorly designed to trigger congressional action on the issue.  If a Medicare trigger of some sort is desired, it might be better to require a Presidential recommendation of legislative changes if the per-person cost growth of total Medicare benefits exceeds some benchmark over time, or when the total level of Medicare benefits and administrative costs exceeds some percentage of the Gross Domestic Product.  Neither of those alternatives would punish good medical practice or good cost-containment practices.  Nor would either of the alternatives favor regressive taxation over progressive taxation or favor well-off taxpayers over the bulk of Medicare beneficiaries with modest incomes.

Moreover, it should be noted that the growing cost of Medicare is a major issue because the federal budget as a whole is on a path that ultimately is not sustainable.  On top of expected growth in Medicare and Social Security, deep tax cuts have eroded the revenue base to the point that it cannot support the public programs the federal government operates, even in a completely healthy economy.  Federal revenues, as a share of the economy, fell in 2003 to their lowest level since 1959, and income-tax revenues fell to their lowest level as a share of the economy since 1942.  While revenues are expected to rise somewhat as the economy improves, revenues are expected to remain below their average levels for the 1970s, 1980s, and 1990s even after full recovery has occurred (if the tax cuts of recent years are extended).  In short, the long-term issue is not Medicare in isolation, but the relationship between the costs of all federal programs including Medicare and the revenues to support them.

Consequently, if a budget enforcement mechanism is to be enacted, it would be much sounder to have a mechanism that applies budget-wide and covers revenues as well as expenditures, rather than to single out Medicare while allowing further tax cuts (or other entitlement expansions) to be enacted without limit and thereby continuing to dig the long-term deficit hole still deeper.  As we, the Committee for Economic Development (a distinguished group of business and education leaders) and the Concord Coalition (a fiscal watchdog group) recently recommended jointly, the Pay-As-You-Go law that worked quite effectively through much of the 1990s — under which both tax cuts and entitlement expansions must be “paid for” — should be reinstituted forthwith.  Such a step would be far more important for long-term fiscal discipline than an arbitrary mechanism focused solely on Medicare.

End Notes:

[1]   Sarah Lueck, “Lawmakers Near Generic-Drug Deal,” Wall Street Journal, October 29, 2003, page A2.

[2]   In addition, about 7 percent of Part A’s income is derived from other sources.  For instance, a portion of Social Security benefits for better-off retirees is considered ordinary income for purposes of the federal income tax.  Some of the income taxes collected on these Social Security benefits are transferred from the Treasury to the Social Security trust funds and the rest to the Medicare Part A trust fund.

[3]   Medicare + Choice, also known as Medicare Part C, is a Medicare option under which some Medicare beneficiaries choose to enroll in private managed care plans such as health maintenance organizations.  On their behalf, Medicare pays a monthly amount that the plans accept as the beneficiaries’ enrollment premiums.  Some of that amount is paid by Part A and some by Part B.