Medicare is a national social insurance program, administered by the U.S. federal government, that guarantees access to health insurance for Americans ages 65 and older and younger people with disabilities as well as people with end stage renal disease. Medicare offers all enrollees a defined benefit. Hospital care is covered under Part A and outpatient medical services are covered under Part B. Medicare Part D covers outpatient prescription drugs. According to the 2012 Medicare Annual Report, the Trustees project that Medicare costs will grow substantially until Trust fund exhaustion occurs in 2024. This model is obviously in need of urgent repair.

A Short History of American Medical Insurance

by John Steele Gordon,
from Imprimus,
September, 2018:

More than 90 percent of the medicine being practiced today did not exist in 1950. Two centuries ago medicine was still an art, not a science at all.

It was only around 1930 that the power of the doctor to cure and ameliorate disease began to increase substantially, and that power has continued to grow nearly exponentially ever since.

In 1930, Americans spent $2.8 billion on health care—$23 per person and 3.5 percent of the Gross Domestic Product. In 2015 we spent about $3 trillion—$9,536 per person and 15 percent of GDP. Adjusted for inflation, this means that per capita medical costs in the United States have risen by a factor of 30 in 90 years.

Forty-three percent of the rise was due to general inflation. Ten percent can be attributed to the American population growing both larger and older (as it still is). Twenty-three percent went to pay for technology, treatments, and pharmaceuticals

But that still leaves 24 percent of the increase unaccounted for, and that 24 percent is due solely to an inflation peculiar to the American medical system itself. Whenever one segment of an economy exhibits, year after year, inflation above the general rate, and when there is no constraint on supply, then either a cartel is in operation or there is a lack of price transparency—or both, as is the case with American medical care. So it is clear that there is something terribly wrong with how health care is financed in our country.

But the history of American medical care, considered in the light of some simple but ineluctable economic laws, can help point the way. For it turns out that the engines of medical inflation were deeply, and innocently, inserted into the health care system just as the medical revolution began.

In 1850 the U.S. had 40,755 people calling themselves physicians, more per capita than the country would have in 1970.

The stethoscope was invented in 1816. The world’s first dental school opened in Baltimore in 1839. The discovery of anesthesia in the 1840s was immensely important ...

Another major advance was the spread of clean water supplies in urban areas ...

Then finally, beginning in the 1850s and 1860s, it was discovered that many diseases were caused by specific microorganisms, as was the infection of wounds, surgical and other. The germ theory of disease, the most powerful idea in the history of medicine, was born ...

Louis Pasteur and others, using their new knowledge of microorganisms, could begin developing vaccines. Rabies fell in 1885, and several diseases that were once the scourge of childhood, such as whooping cough and diphtheria, followed around the turn of the century. Vitamin deficiency diseases, such as pellagra, began to decline a decade later. When the pasteurization of milk began to be widely mandated around that time, the death rate among young children plunged. In 1891, the death rate for American children in the first year of life was 125.1 per 1,000. By 1925 it had been reduced to 15.8 per 1,000, and the life expectancy of Americans as a whole began a dramatic rise.

Hospital “Insurance” One of the most fundamental changes caused by the germ theory of disease, one not foreseen at all, was the spread of hospitals for treating the sick. Hospitals have an ancient history, but for most of that history they were intended for the very poor, especially those who were mentally ill or blind or who suffered from contagious diseases such as leprosy.

Thus, until the late nineteenth century, hospitals were little more than a place for the poor and the desperate to die. In 1873, there were only 149 hospitals in the entire U.S. A century later there were over 7,000, and they had become the cutting edge of both clinical medicine and medical research. But hospitals had a financial problem from the very beginning of scientific medicine. By their nature they are extremely labor intensive and expensive to operate. Moreover, their costs are relatively fixed and not dependent on the number of patients being served. To help solve this problem, someone in the late 1920s had a bright idea: hospital insurance. The first hospital plan was introduced in Dallas, Texas, in 1929. The subscribers, some 1,500 schoolteachers, paid six dollars a year in premiums, and Baylor University Hospital agreed to provide up to 21 days of hospital care to any subscriber who needed it.

Thus the scheme had an immediate appeal to other medical institutions, and it quickly spread. Before long, groups of hospitals were banding together to offer plans that were honored at all participating institutions, giving subscribers a choice of which hospital to use. This became the model for Blue Cross, which first operated in Sacramento, California, in 1932.

In the 1950s, major medical insurance, which does protect against catastrophe rather than misfortune, began to provide that sort of coverage.

The original hospital insurance also contained the seeds of two other major economic dislocations, unnoticed in the beginning, that have come to loom large. The first dislocation is that while people purchased hospital plans to be protected against unpredictable medical expenses, the plans only paid off if the medical expenses were incurred in a hospital. As a result, cases that could be treated on an outpatient basis instead became much more likely to be treated in the hospital—the most expensive form of medical care.

The second dislocation was that hospital insurance did not provide indemnity coverage

Rather than indemnification, the insurance company provided service benefits.

As a result, there was little incentive for the consumer of medical services to shop around.

These dislocations perfectly suited the hospitals, which wanted to maximize the amount of services they provided and thereby maximize their cash flow.

Predictably, the medical profession began to lobby in favor of retaining this system.

Had hospital insurance come to be regulated like other insurance, those offering it would have begun acting more like insurance companies, and the economic history of modern American medicine might have taken a very different turn.

The American Hospital Association and the American Medical Association worked hard to exempt Blue Cross from most insurance regulation

Freed from taxes and from the regulatory requirement to maintain large reserve funds, Blue Cross and Blue Shield (a plan that paid physicians’ fees on the same basis as Blue Cross paid hospital costs) came to dominate the market in health care insurance, holding about half of the policies outstanding by 1940...Any incentive for hospitals to be efficient and reduce costs vanished.

The result is a steady increase in empty beds. There were over 7,000 hospitals in the U.S. in 1975, compared to about 5,500 today. But that reduction has not been nearly enough. Because of the cost-plus way hospitals are paid, they don’t compete for patients by means of price...The inevitable result, of course, is that hospital costs on a per-patient per-day basis have skyrocketed. Doctors, meanwhile, were paid for their services according to “reasonable and customary” charges...As more and more Americans came to be covered by health insurance, doctors were no longer even able to compete with one another.

During World War II, another feature of the American health care system with large financial implications for the future developed: employer-paid health insurance.

The problem was that company-paid health insurance further increased the distance between the consumer of medical care and the purchaser of medical care...But beginning in the 1940s, a rapidly increasing number of Americans had no rational choice but to take whatever health care plan their employers chose to provide.

There is another aspect of employer-paid health insurance, unimagined when the system first began, that has had pernicious economic consequences in recent years...Most insurance policies are based on a combination of community and experience ratings. But employer-paid health insurance is an exception. It can be based on the data for each company’s employees

By 1960, as the medical revolution was quickly gaining speed, the economically flawed private health care financing system was fully in place. Then two other events added to the gathering debacle. In 1965, government entered the medical market with Medicare for the elderly and Medicaid for the poor. And when Medicare and Medicaid proved a bonanza for health care providers, their vehement opposition quickly faded away.

But perhaps the most important consequence of these new programs was the power over hospitals they gave to state governments. State governments became the largest single source of funds for virtually every major hospital in the country

these decisions were increasingly made for political, rather than medical or economic, reasons.

Finally, there was the litigation explosion of the last 50 years. For every medical malpractice suit filed in the U.S. in 1969, 300 were filed in 1990.

The results for the country as a whole are plain to see. In 1930 we spent 3.5 percent of American GDP on health care; in 1950, 4.5 percent; in 1970, 7.3 percent; in 1990, 12.2 percent. Today we spend 15 percent. American medical care over this period has saved the lives of millions who could not have been saved before—life expectancy today is 78.6 years. It has relieved the pain and suffering of tens of millions more. But it has also become a monster that is devouring the American economy.

Is there a way out? But our federal government already runs three single-payer systems—Medicare, the Veterans Health Administration, and the Indian Health Service—each of which is in a shambles, noted for fraud, waste, and corruption.

A far better and cheaper alternative would be to reform the economics of the present system. The most important thing to do, by far, is to require medical service providers to make public their inclusive prices for all procedures.

Once prices are known and can be compared, competition—capitalism’s secret weapon

Any politician who pontificates about reforming health care without talking about making prices public is carrying water for one or more of the powerful lobbyists that have stymied real reform, such as the American Hospital Association, the American Medical Association, and the health workers unions. Second, we should reform how malpractice is handled.

Third, we need to ensure that the consumers of medical care—you and me—care about the cost of medical care. Getting patients to shop for lower-cost services is vital. A generous health insurance policy more or less covers everything from a sniffle to a heart transplant. It shouldn’t.

One way to achieve this would be for employers to provide major medical insurance plus a health savings account to take care of routine health care.

Finally, we need to get the practitioners of modern medicine to recognize an age-old reality: there is no cure for old age itself.

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